Prime Contracting VS MRRA – Definitions and Tax Treatment
SB 1446 updates the definitions of Modification and statutorily defines Alteration and Replacement.
Modification no longer includes improvement, movement, MRRA (maintenance, repair, replacement, alteration) activities or related mobilization, demobilization, wreckage and demolition. Modification now includes all construction, grading, leveling, wreckage and demolition specifically not MRRA.
Alteration is defined as an activity or action that causes direct physical change to existing property, subject to specific residential and commercial limitations. If the contract is over these limits, it will be considered Modification and taxed as Prime Contracting. If at initial signing of the contract, it is thought that the contract will be below the limits, there is a 25% safe harbor that applies to the contract. If at the end of the project, the contract exceeds any limit by more than 25% the entire contract becomes Modification and taxed as Prime Contracting.
- Residential contracts are considered Alteration so long as they are for 25% or less of the most recent available Full Cash Value of the property. Full Cash Value can be obtained from the County Assessor website or by asking the owner for their most recent notice.
- Safe Harbor Threshold: 31.25% of the Full Cash Value.
- Contracts for Commercial projects have three independent limits, if any limit is exceeded the contract will be considered Prime Contracting.
Threshold Intial Contract Date Contract Completion (Safe Harbor) Contract Price $750,000 $937,500 Scope of work 40% of existing square footage 50% of existing square footage Scope of work Expanding square footage by 10% Expanding square footage by 12.5%
Replacement is the removal of one component or system of existing property and the installation of a new component or system that provides the same or upgraded functionality, regardless of contract amount for the removal and installation.
Maintenance and Repair are still not statutorily defined however the definitions from TPN 14-1 issued in November 2014 still apply, with the exception that any wreckage, demolition, mobilization and demobilization required for these contracts would not count against the 15% de-minimis modification.
Prior to SB 1446, all change orders had to be evaluated as if they were stand alone contracts for determining proper treatment as MRRA or Prime Contracting. Retroactively effective to January 1, 2015 change orders directly related to the original contract, are automatically taxed as part of the original contract. Note that change orders can change the tax treatment of Alteration contracts if the change order causes the contract to go over the limits. If the change order is not directly related to the original contract it will still be evaluated independently of the original contract to determine proper taxing treatment.
Taxation of Materials
SB 1446 gives contractors the option to use AZ Form 5000 to purchase all materials tax free, but requires that when a contractor incorporates un-taxed materials into an MRRA contract that they self-report TPT tax at the retail rate of the Job Site. Note, this change moves the retail jurisdiction away from the contractor’s location and also requires that contractors report un-taxed materials at the TPT rate under retail, not the Use Tax rate even if the materials were purchased from out of state vendors.
Contractors can now issue AZ Form 5005 to subcontractors on both Prime Contracting and MRRA jobs. By issuing AZ Form 5005 to subcontractors on MRRA jobs, the General Contractor releases the subcontractor from the obligation to pay, self-assess or remit the tax and the General Contractor will take on the responsibility of the tax on the contract.
Updated Arizona Form 5000s and 5005s will be coming to provide appropriate boxes for MRRA contracts
Exemptions and Special Cases
Retail TPT exemptions have been expanded to include sales to Contractors performing MRRA contracts with Qualifying Health Care Organizations, and Indian Tribes or Affiliated Indians within Indian Reservation boundaries. Previously, Contractors had similar exemptions that were utilized under the Prime Contracting classification that were lost under the TPT simplification creation of MRRA contracts.
In addition, Retail TPT exemptions s have been expanded for materials sold to Contractors performing MRRA contracts associated with exempt machinery and equipment. Previously, Contractors had similar exemptions that were utilized under the Prime Contracting classification that were lost under the TPT simplification creation of MRRA contracts.
Contracts for Roadway and other surface or subsurface improvements on with ADOT, Cities, Counties, and some special taxing districts are taxed as Prime Contracting.
- Good faith determinations of Prime Contracting or MRRA treatment on contracts entered into or bids submitted prior to May 1, 2015 will be honored by the AZDOR.
- Maintenance, Repair, and Replacement activities will be taxed at the material level
- Alteration means any activity that causes direct physical change to existing property and will be taxed at the material level, subject to new separate commercial and residential limitations.
- Modification is all contracting, grading and leveling, wreckage or demolition that is not specifically part of or necessary for MRRA activities
- Contractors may use AZ Form 5000 to purchase all materials tax free
- General Contractors may use AZ Form 5005 on all contracts, taking on the liability for MRRA contracts from the subcontractor
- Previously untaxed Materials used in MRRA contracts will be self-assessed TPT at the retail rate of the contract location
- Materials purchased for MRRA contracts with Qualified Health Care Organizations & Indian Tribes are now exempt
- Materials purchased for MRRA contracts associated with some Machinery and Equipment exempt under the Retail classification are now exempt
- ADOT, City, County and select special taxing jurisdiction contracts for surface/subsurface work is taxed as Prime Contracting
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Arizona’s Transaction Privilege Tax(TPT) has been changed. HB 2389, signed by Governor Brewer on April 30, 2014, became effective on January 1, 2015. The law requires contractors to determine whether construction contracts are “Prime/Modification” contracts or “Maintenance, Repair, Replacement or Alteration”(MRRA) contracts. The type of contract determines who is responsible for reporting TPT and at what rate. Governor Ducey signed SB 1446 on February 24, 2015, which enacts new changes to Prime and MRRA contracts. It is effective retroactive to January 1, 2015.
Our Decision Tree is a visual guide to help navigate the law in relation to Prime contracting. The Decision Tree will help guide you through the process of determining the tax treatment of your contract. It can also be used as further documentation to support your tax treatment decision.
Disclaimer: This is only a guide based on applicable law under SB 1446. The Arizona Department of Revenue has not approved nor endorsed its use.