Glenn Hegar, Comptroller of Public Accounts of the State of Texas And Ken Paxton, Attorney General of the State of Texas v. Texas Westmoreland Coal Co. ( 2021 )

TEXAS COURT OF APPEALS, THIRD DISTRICT, AT AUSTIN
NO. 03-20-00406-CV
Glenn Hegar, Comptroller of Public Accounts of the State of Texas; and
Ken Paxton, Attorney General of the State of Texas, Appellants
v.
Texas Westmoreland Coal Co., Appellee
FROM THE 53RD DISTRICT COURT OF TRAVIS COUNTY
NO. D-1-GN-19-000374, THE HONORABLE DUSTIN M. HOWELL, JUDGE PRESIDING
OPINION
This appeal concerns whether a taxpayer who extracts and processes coal for
ultimate sale is entitled to the manufacturing exemption from Texas’s sales and use taxes.
See Tex. Tax Code § 151.318 (“Property Used in Manufacturing”). The trial court rendered
judgment in favor of Texas Westmoreland Coal Co. (Westmoreland), determining that
Westmoreland proved its entitlement to the exemption and was owed a tax refund. See id.
§ 151.318(a)(2)(A) (providing exemption for tangible personal property used in manufacturing,
processing, or fabrication of tangible personal property for ultimate sale); see also id. § 112.151
(authorizing tax-refund suits). On appeal, Comptroller Glenn Hegar and Attorney General Ken
Paxton (collectively, the Comptroller) contend that the exemption does not apply as a matter of
law because the coal began its processing journey as real property. For the following reasons,
we will affirm the trial court’s judgment.
BACKGROUND1
During the tax period at issue (July 1, 2012, through December 31, 2014),
Westmoreland owned and operated a lignite coal mine in Texas. Westmoreland used different
types of heavy equipment to produce the lignite coal that it ultimately sold to NRG Energy
Corporation. The first step in Westmoreland’s coal-production process was removing a layer of
dirt called “overburden” sitting on top of the lignite coal formation with a piece of equipment
called a “dragline” (which is not at issue here). The removal of the overburden exposed the
lignite formation. Westmoreland then used three excavators—the equipment at issue here—“to
crack, break apart, and reduce the size of the lignite coal.” Westmoreland leased the excavators,
purchased component parts for them, and paid sales and use taxes on the leases and parts.
The excavators have large buckets with teeth mounted on them. In “one seamless
process,” Westmoreland’s equipment operators “dragged the [excavator] buckets’ teeth through
the exposed lignite coal formation to crack, break, or rip apart the lignite coal formation” and—
“[o]nce the buckets . . . [we]re filled with pieces of lignite coal”—dumped the lignite into trucks
from a height of about ten or twelve feet, further breaking it apart. Westmoreland could only sell
the lignite to NRG in small pieces that ranged from the size of a pea to a soccer ball because
NRG’s equipment could not handle larger sizes, and lignite coal “is not naturally sized in pea to
soccer ball sized pieces.” Westmoreland “broke the lignite apart with the [excavators] in order to
produce” the appropriately sized pieces and “ultimately produced lignite coal” in such-sized
pieces (the Product) for sale to NRG.
Westmoreland filed a tax-refund claim with the Comptroller to recover over
$2.4 million in sales and use taxes it claimed to have overpaid during the tax period at issue.
1
The facts in this section are derived from the trial court’s uncontested findings of fact.
2
The Comptroller granted the claim in part, agreeing to refund over $1 million. Westmoreland
requested a hearing to challenge the denial of the remainder of its claim, asserting that it was
entitled to a refund of a portion of tax it had paid on leasing the three excavators and purchasing
parts for them because it was directly using tangible personal property (the excavators) in
the processing of tangible personal property for ultimate sale (the Product).2 See id.
§ 151.318(a)(2)(A).
The “processing exemption”3 on which Westmoreland relied provides,
(a) The following items are exempted from the taxes imposed by this chapter if
sold, leased, or rented to, or stored, used, or consumed by a manufacturer:
...
(2) tangible personal property directly used or consumed in or during the
actual manufacturing, processing, or fabrication of tangible personal
property for ultimate sale if the use or consumption of the property is
necessary or essential to the manufacturing, processing, or fabrication
operation and directly makes or causes a chemical or physical change to:
(A) the product being manufactured, processed, or fabricated for
ultimate sale[.]
Id. § 151.318 (emphases added).
The Comptroller determined that Westmoreland was not entitled to the processing
exemption and denied the refund. After the Comptroller denied Westmoreland’s motion for
rehearing, Westmoreland filed this tax-refund suit. See id. § 112.151. After a bench trial, the trial
2
Westmoreland sought a refund for only the percentage of time that the excavators were
used to “break apart, rip, and reduce the size of the lignite coal.”
3
While the Section 151.318 exemption is commonly known as the “manufacturing
exemption,” Westmoreland claimed before the Comptroller and the trial court that it specifically
engaged in the “processing” of the Product rather than the “manufacturing” or “fabrication” of it,
and therefore we refer hereafter to the more specific portion of the exemption at issue as the
“processing exemption.”
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court rendered judgment in favor of Westmoreland, awarding it a refund of $208,578.40 (about
$50,000 less than the amount Westmoreland requested). Per the Comptroller’s request, the trial
court issued findings of fact and conclusions of law, including the following conclusion: “[The
excavators] and their component parts were used in exempt processing by directly causing physical
changes to lignite coal.” See id. § 151.318(a)(2)(A). The Comptroller timely filed this appeal.
DISCUSSION
In one issue, the Comptroller contends that the trial court erred in construing Tax
Code Section 151.318(a)(2)(A) and applying it to the undisputed facts to conclude that
Westmoreland is entitled to the processing exemption for its coal production. The Comptroller
argues that Westmoreland is not entitled to the exemption because (1) the lignite coal constituted
real property, not personal property, when the excavators first dug into the coal formation and
(2) “processing” under the statute does not encompass extracting minerals from the earth.
Therefore, the Comptroller concludes, Westmoreland as a matter of law did not use the
excavators in the “actual processing” of “tangible personal property for ultimate sale.” See id.
Our review of the Comptroller’s issue turns on statutory construction, which is a
question of law we review de novo. See First Am. Title Ins. v. Combs, 258 S.W.3d 627, 631
(Tex. 2008). Our primary objective is to give effect to the legislature’s intent, which we
ascertain from the plain meaning of the words used in the statute, if possible. Greater Hous.
P’ship v. Paxton, 468 S.W.3d 51, 58 (Tex. 2015). The legislature’s intent must, if possible, be
discovered within the language the legislature enacted. Texas Health Presbyterian Hosp. of
Denton v. D.A., 569 S.W.3d 126, 135-36 (Tex. 2018). When text is clear and unambiguous, it is
determinative of intent. TIC Energy & Chem., Inc. v. Martin, 498 S.W.3d 68, 74–75 (Tex.
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2016). If statutory language is unambiguous, we will interpret and apply the statute according to
its plain meaning unless a different meaning is apparent from the context or the plain meaning
leads to absurd results. In re Ford Motor Co., 442 S.W.3d 265, 280 (Tex. 2014).
In determining a statute’s meaning, we construe the statute as a whole rather
than construing specific provisions in isolation. Id. We look at the entire act in determining the
legislature’s intent with respect to specific provisions. Railroad Comm’n v. Texas Citizens for a
Safe Future & Clean Water, 336 S.W.3d 619, 628 (Tex. 2011). Undefined terms are afforded
their ordinary meaning unless a different or more precise definition is apparent from the context
of the statute, see Tex. Gov’t Code § 311.011(a); TGS-NOPEC Geophysical Co. v. Combs,
340 S.W.3d 432, 439 (Tex. 2011), because we cannot give an undefined term a meaning that is
disharmonious or inconsistent with other provisions in the statute, see Texas Dep’t of Transp. v.
Needham, 82 S.W.3d 314, 318 (Tex. 2002). Also, while tax exemptions are narrowly construed,
and the taxpayer has the burden to “clearly show” that an exemption applies, see Tex. Tax Code
§ 151.318(r), construing exemptions narrowly “does not mean disregarding the words used by
the Legislature,” Southwest Royalties, Inc. v. Hegar, 500 S.W.3d 400, 404 (Tex. 2016).
Here, the statute is clear and unambiguous, and there is no dispute, that for
the processing exemption to apply (1) the ultimate product a taxpayer offers for sale must be
tangible personal property (and not, e.g., real property or intangible personal property), (2) the
item (e.g., equipment) directly used or consumed in the production of the ultimate product must
be tangible personal property, and (3) the item (e.g., equipment) directly used or consumed in the
production must directly make or cause a chemical or physical change to the product being
produced for ultimate sale. See Tex. Tax Code § 151.318(a)(2)(A). Each of the foregoing
requirements was met: (1) the Product that Westmoreland sold to NRG was tangible personal
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property, (2) the excavators directly used to process the Product (and for which Westmoreland
paid sales and use taxes) were tangible personal property, and (3) the excavators caused physical
changes to the lignite coal during the production process.
Nonetheless, the Comptroller contends that there is a fourth requirement, and this
is where the parties join issue: Does an input in the production process have to be tangible
personal property itself? The Comptroller argues that the excavators were not processing personal
property because the lignite formation constituted real property at the moment the excavators
first dug into it. See In re Estate of Ethridge, 594 S.W.3d 611, 616 (Tex. App.—Eastland 2019,
no pet.) (“[I]t is well settled that mineral interests are interests in real property, but minerals
become personal property when severed or extracted from the land.”); see also Cage Bros. v.
Whiteman, 163 S.W.2d 638, 641 (Tex. 1942) (“Earth, sand, and gravel while remaining in its
original bed is a part of the realty[.]”). Furthermore, the Comptroller argues, because the
processing at issue constituted “one seamless process” from when the excavators first dug into
the formation until when the lignite pieces landed in the dump trucks, Westmoreland is not
entitled to the exemption for any portion of that process (i.e., for the period after the lignite had
been severed from the realty until when it landed in the trucks). Therefore, the Comptroller’s
argument concludes, the excavators were used in the “processing” of real property, not personal
property. Based on the plain language of the statute and recent precedent, we disagree.
First, we observe that the statute imposes no express requirement concerning the
legal character of inputs or raw materials and, in fact, does not mention inputs or raw materials
at all. Rather, the statute’s plain language provides an exemption for the excavators to the
extent that they were used in the “actual manufacturing, processing, or fabrication of tangible
personal property for ultimate sale.” See Tex. Tax Code § 151.318(a)(2) (emphasis added). The
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Comptroller’s reading does not comport with the statute’s (1) grammatical structure and
prepositional phrase—the “manufacturing, processing, or fabrication of tangible personal
property for ultimate sale”; (2) repeated use of the phrase “for ultimate sale”; and (3) grouping
together of manufacturing, processing, and fabrication. In this context and as explained below,
the only reasonable reading of the preposition “of” in the phrase “manufacturing, processing, or
fabrication of tangible personal property for ultimate sale” is that the preposition is used to
indicate the end product of a production process, not the inputs or the process itself. See Willacy
Cnty. Appraisal Dist. v. Sebastian Cotton & Grain, Ltd., 555 S.W.3d 29, 39 (Tex. 2018) (noting
“fundamental principle of statutory construction that words’ meanings cannot be determined in
isolation but must be drawn from the context in which they are used”). Read as a whole, the
statute contemplates certain conditions that must be met with respect to the production of an end
product for ultimate sale to entitle the taxpayer to the exemption. It expressly applies to the
manufacturing of, the processing of, or the fabrication of a particular product for ultimate sale,
and the essence of those three related processes is that the output at the end of the process is
different from the one or more inputs along the way. The exemption does not, however, either
grammatically or conceptually contemplate that the inputs themselves are being manufactured,
processed, or fabricated.
While the statute does not define the nouns “processing” or “fabrication,” it does
in subsection (d) specify that the noun “manufacturing” includes “each operation beginning with
the first stage in the production of tangible personal property and ending with the completion
of tangible personal property having the physical properties (including packaging, if any) that
it has when transferred by the manufacturer to another.” Tex. Tax Code § 151.318(d). As in
subsection (a)(2)(A), in subsection (d) the prepositional phrase “of tangible property” again
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appears—following the noun “production”—evincing a concern with an end product, not inputs.
When construing statutory terms, we will not give an undefined term a meaning that is out
of harmony or inconsistent with other terms in the statute. In re Hall, 286 S.W.3d 925, 929
(Tex. 2009). In this statutory context, the fact that the noun “processing” is listed with the
noun “manufacturing”—an activity expressly having to do with the production of a final end
product (a tangible good) for sale—indicates that the focus of the activity is on the end product,
not the inputs. See Aleman v. Texas Med. Bd., 573 S.W.3d 796, 815 (Tex. 2019) (explaining
“noscitur a sociis” canon of construction as requiring that “when words ‘are associated in a
context suggesting that the words have something in common, they should be assigned a
permissible meaning that makes them similar’”).
Furthermore, it would be grammatically incongruent for the legislature to have
grouped the phrase “processing of” with the phrases “manufacturing of” and “fabrication of”—
both of which commonly refer to the production of a particular end product, e.g., the
manufacture of cars or the fabrication of notebooks—if the phrase “processing of” did not
also refer to the production of a particular end product. See Willacy Cnty. Appraisal Dist.,
555 S.W.3d at 38–39 (explaining series-qualifier canon of statutory construction as “when there
is a straightforward, parallel construction that involves all nouns or verbs in a series, a
prepositive or postpositive modifier normally applies to the entire series”) (quoting Sullivan v.
Abraham, 488 S.W.3d 294, 297 (Tex. 2016)); see Of, Merriam-Webster.com Dictionary,
https://www.merriam-webster.com/dictionary/of (last visited Oct. 5, 2021) (explaining, relevantly,
that “of” is “used as a function word to indicate the object of an action denoted or implied
by the preceding noun”); see also id. at https://www.merriam-webster.com/dictionary/fabricate
(defining “fabricate” to mean “construct, manufacture” and “to construct from diverse and
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usually standardized parts // [e.g.,] Their plan is to fabricate the house”); id. at https://www.
merriam-webster.com/dictionary/manufacture (defining noun “manufacture” as “the process
of making wares by hand or by machinery especially when carried on systematically with
division of labor // [e.g.,] the manufacture of automobiles”); id. at https://www.merriam-
webster.com/dictionary/process (defining verb “process,” relevantly, to mean “to subject to a
special process or treatment (as in the course of manufacture or film development). To read the
statute as the Comptroller suggests would require the prepositional phrase “of tangible personal
property for ultimate sale” to apply to the noun “processing” differently from how it applies to
the nouns “manufacturing” and “fabrication.” To do so would contravene basic grammatical and
statutory-construction rules and be at odds with the more harmonious and contextual
construction discussed above.
Secondly, this construction is supported by the supreme court’s Southwest
Royalties opinion construing the exemption’s term “processing” in a case where the Comptroller
argued, among other things, that the taxpayer was not engaged in processing because the
equipment at issue did not directly cause changes to the product (hydrocarbons). See
500 S.W.3d at 406. In Southwest Royalties, the supreme court agreed with the Comptroller and
upheld the lower courts’ determinations that casings used to line oil and gas wells and tubing
used to bring hydrocarbons from the wells to the surface did not directly change the
hydrocarbons (i.e., cause them to separate into gases and liquids) because those changes occurred
naturally as a result of pressure changes when the substances migrated into the wells and up to
the surface. See id. The supreme court mentioned but (because of its holding) did not need to
address the Comptroller’s alternate argument (similar to that here) that the hydrocarbons were
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real property while they remained underground and thus the taxpayer was not processing
personal property but only real property. See id. at 404.
Even so, the Comptroller cites the opinion as supportive of his proposed
construction of the term “processing” here, based on the supreme court’s construction of that
term: “the application of materials and labor necessary to modify or change characteristics of
tangible personal property.” See id. at 406 (emphasis added). However, the supreme court was
not squarely addressing the dispositive issue presented here, and its focus was on whether the
otherwise taxable items at issue (the casing and tubing) were directly causing the changes to the
product being processed.4 While the prepositional phrase “for ultimate sale” follows the phrase
“of tangible personal property” in the exemption’s text, the supreme court did not cite that
important qualifying phrase, presumably because it was not relevant to the dispositive issue in
that case.5 See id. However, that prepositional phrase is relevant here, as discussed above, and
thus the supreme court’s construction of the term “processing” as requiring a direct physical or
chemical change does not preclude our holding.
Furthermore, in Southwest Royalties the supreme court cited with approval three
prior Comptroller decisions that support Westmoreland’s position. See id. at 409. In those
decisions involving facts analogous to those here, the Comptroller determined that the taxpayer
was entitled to the processing exemption—a position that is directly at odds with his position
4
It is undisputed that Westmoreland’s excavators were directly causing physical changes
to the lignite coal.
5
The dispositive issue in Southwest Royalties—essentially, “Is processing happening
when equipment does not directly cause physical or chemical changes to the product being
produced?”—does not aid in determination of the dispositive issue here—essentially, “Need the
main input in the production process begin its processing journey as personal property?”
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here. See id. (citing Comptroller decisions allowing exemption where equipment was used to
shatter limestone formations to be processed into cement, explosives were used to blast rock and
sandstone formations to be processed into gravel and sand, and dynamite was used to blast rock
out of earth to be processed into gravel). We interpret the supreme court’s favorable citation to
those Comptroller decisions as indicative of the high court’s assessment of the real property
versus personal property distinction and thus as support of our conclusion that exempt processing
can include the severance of minerals or other physical materials from the earth when the
exemption’s express requirements are otherwise met, as they were here. See id. We accordingly
overrule the Comptroller’s issue.
CONCLUSION
Having overruled the Comptroller’s sole issue on appeal, we affirm the trial
court’s final judgment.
__________________________________________
Thomas J. Baker, Justice
Before Chief Justice Byrne, Justices Baker and Smith
Affirmed
Filed: October 7, 2021
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