Iowa Department of Revenue Seeks to Narrow Sales Tax Exemption Through “Clarifying” Rulemaking

On May 5, 2021, the Iowa Department of Revenue filed a Notice of Intended Action (ARC 5614C) demonstrating its intent to implement administrative rules that would impact manufacturers of food products for human consumption. 

On June 16, 2021, the Department filed an Amended Notice of Intended Action (ARC 5720C) regarding the previously filed Notice. The substance of the original and Amended Notices are the same—the only difference was an additional date for public hearing, July 8, 2021.

The Department’s proposed rules interpret the sales tax exemption in Iowa Code § 423.3(49), which exempts from sales tax “[t]he sales price from the sale of carbon dioxide in a liquid, solid, or gaseous form, electricity, steam, and other taxable services and the lease or rental of tangible personal property when used by a manufacturer of food products to produce marketable food products for human consumption . . . .” The proposed rules seek to define “marketable food products for human consumption,” noting that such phrase has never been defined by statute or administrate rule.  

The Department explains the effect of the rules as follows: “only final food products, not food ingredients, are ‘marketable food products for human consumption.’” To achieve this, the Department’s proposed rules define “marketable food products for human consumption” to include only “final products ready for and capable of consumption without the need for further processing after being sold to the purchaser.” According to the Department, the proposed rules reflect “[t]he Department’s long-standing interpretation of the term, articulated through audits and protests.” Thus, according to the Department, the proposed rules “provide clarity to taxpayers seeking to claim this exemption.”

Unfortunately, the Department’s statements do not reflect the reality of this exemption.

First, the Department has historically settled audits and protests of issues related to the exemption in Iowa Code § 423.3(49).  While settlement is in no way dispositive of the correct interpretation of 423.3(49), it certainly demonstrates a recognized ambiguity in 423.3(49) and calls into question the validity of the Department’s “long-standing interpretation”. Frankly, if the Department truly believed its “long-standing interpretation” was the correct interpretation, it would not have settled so many audits and protests.

Second, the Department’s interpretation in the proposed rules is inconsistent with the actual language of 423.3(49). “Adoption of administrative rules which are at variance with statutory provisions or which amend or nullify legislative intent exceeds the Department's authority.” Sorg. V. Iowa Dept. of Revenue, 269 N.W.2d 129, 131 (Iowa 1978). Iowa Code § 423.3(49) provides that the exemption applies to manufacturers of “food products to produce marketable food products for human consumption.” (emphasis added). The legislature’s use of the phrase “to produce” demonstrates that it intended the exemption to include those manufacturers that manufacture food products that are subsequently used in the manufacture of marketable food products for human consumption (i.e. food ingredients) in addition to those manufacturers producing final products. So, the Department’s purported “clarification” of the existing statute is anything but that. The Department is trying to legislate via rulemaking, which is not allowed. 

Not surprisingly, many associations and taxpayers in the State of Iowa have submitted comments taking issue with the Department’s proposed rules.  At this time, it is unclear whether these proposed rules will become final.

Shareholder Attorney Cody Edwards leads Dickinson Law’s state and local tax practice and focuses on sales, use, and property tax controversy and litigation, multistate taxation, and general sales and use tax counseling. For more information on his practice, click here.