Rev. Rul. 75-272

Advice has been requested as to the applicability of the manufacturers excise tax on automotive parts or accessories imposed by section 4061(b)(1) of the Internal Revenue Code of 1954 under the circumstances described below.

Situation 1. The taxpayer, a manufacturer of custom-made trucks subject to the manufacturers excise tax imposed by section 4061(a)(1) of the Code, sells the trucks at retail and warrants them for one year from the date of purchase against defective materials and parts in its products. When trucks are returned for repair under warranty, the manufacturer replaces defective parts with replacements of its own manufacture without charge to the customer. Some of the parts used in repair are automotive parts or accessories taxable under section 4061(b).

Situation 2. The facts are the same as in Situation 1 except that when the defective parts are replaced a reduced price is charged for the parts.

Situation 3. The facts are the same as in Situation 1 except that the taxpayer purchases rather than manufactures the replacement parts.

Situation 4. The facts are the same as in Situation 1 except that the trucks are not sold but are retained by the taxpayer for its own use. The defective parts are replaced within one year of first use.

Section 4061(a)(1) of the Code imposes a manufacturers excise tax on certain enumerated motor vehicle articles, including automobile truck chassis and bodies.

Section 4061(b)(1) of the Code imposes a manufacturers excise tax on parts or accessories (other than tires and tubes) for any of the articles enumerated in section 4061(a)(1).

Section 4218(c) of the Code provides that if any person manufactures, produces, or imports an article taxable under section 4061(b) and uses it (otherwise than as material in the manufacture or production of, or as a component part of, any other article to be manufactured or produced by him) then he shall be liable for tax under chapter 32 in the same manner as if such article were sold by him.

Section 4221(a)(1) of the Code provides that under regulations prescribed by the Secretary or his delegate, no manufacturers excise tax shall be imposed on the sale by the manufacturer of an article for use by the purchaser for further manufacture, or for resale by the purchaser to a second purchaser for use by such second purchaser in further manufacture.

Section 4221(d)(6)(B) of the Code provides that an article shall be treated as sold for use in further manufacture if, in the case of a part or accessory taxable under section 4061(b), such article is sold for use by the purchaser as material in the manufacture or production of, or as a component part of, another article to be manufactured or produced by him.

Under the provisions of section 6416(b)(3)(B) of the Code, if the tax imposed by chapter 32 has been paid with respect to the sale of a part or accessory by the manufacturer, producer, or importer thereof and such article is sold to a subsequent manufacturer before being used, such tax shall be deemed to be an overpayment by the subsequent manufacturer when the taxable part or accessory is used by him as material in the manufacture or production of, or as a component part of, any other article manufactured or produced by him.

Section 316.14(c) of Regulations 46, made applicable to the 1954 Code by T.D. 6091, 1954-2 C.B. 47, provides that where any taxable article is returned to the manufacturer thereof by his vendee for adjustment, replacement, or exchange, under a guaranty as to quality or service, and a new article given pursuant to the guaranty, free, or at a reduced price, the tax shall be computed on the actual amount, if any, to be paid to the manufacturer for the new article.

Although the question in General Motors Corp., Frigidaire Division v. United States, 147 F. Supp. 739 (Ct. Cl. 1957), was whether certain warranty expenses incurred in connection with taxable sales of refrigerators were price "allowances" for manufacturers excise tax purposes, the majority opinion in that case contains the following statement bearing on the issue in the instant case:

***There is an implied warranty of any article sold by a manufacturer that it is in good working condition and free from defective parts. Many times these defects can be discovered only from the use of the article, and, in the custom of the various trades, certain periods of time are allowed for these defects to show up. If they show up within the time allowed, the manufacturer must remedy them at his own expense, in order to make good his representation that the article sold was free from defects.

The sales price was for an article free of defects. The cost of remedying defects that later appeared, therefore, cannot be an "allowance" to the purchaser to be deducted from the sale price. It was not an "allowance," but a sum spent to give to the purchaser what the manufacturer had represented it was selling to him, to wit, a sound article. (italics added).

See also Ford Motor Co. v. United States, 156 F. Supp. 554 (Ct. Cl. 1958), cert. denied, 358 U.S. 864, and Chrysler Corporation v. United States, 300 F. 2d 154 (6th Cir. 1962).

In view of the above, the use of taxable automotive parts or accessories by the manufacturer in carrying out his warranty is a use of such parts or accessories as material or components in the manufacture of another article within the meaning of section 4218(c) of the Code, and the tax imposed by that section does not apply to such use.

Accordingly, in Situation 1 no tax is due when the taxpayer replaces the defective part without charge. When the taxpayer replaces the part at a reduced price in Situation 2, a sale has occurred and tax is due on an amount of a constructive sale price determined under the provisions of section 4216(b) of the Code.

As concluded above, the use of an article to replace under warranty a defective part in an article the taxpayer has manufactured is a use as material in the manufacture of the latter article. Therefore, in Situation 3 the taxpayer can purchase tax free under the provisions of section 4221(a)(1) of the Code articles to be used to replace under warranty defective parts in the trucks the taxpayer has manufactured. In addition, a credit or refund can be obtained under the provisions of section 6416(b)(3)(B) when the replacement parts, sold tax paid, are so used. Accordingly, in Situation 3 no tax is due when the part is installed.

In Situation 4, where the taxpayer uses a part to replace a defective part in a truck it has manufactured and retained for its own use, such use of the part will be considered as use in the manufacture of the truck for purposes of section 4218(c) of the Code provided that the use occurs within the normal one year warranty period after the first use of the truck. Accordingly, no tax is due in Situation 4 on use of the part for the replacement within one year from the first use of the truck by the manufacturer. After expiration of such period, the reasoning of the General Motors, Ford and Chrysler cases does not apply, and the replacement of the defective part is no longer the mere completion of the original manufacture of the truck. Thus in such case, tax will be due under the provision of section 4218(c) as if the part had been sold.