                               IN THE
            ARIZONA COURT OF APPEALS
                            DIVISION ONE


ARIZONA ELECTRIC POWER COOPERATIVE, INC., Plaintiff/Appellant,

                                   v.

     ARIZONA DEPARTMENT OF REVENUE, Defendant/Appellee.

                         No. 1 CA-TX 16-0004
                          FILED 3-28-2017


                 Appeal from the Arizona Tax Court
                         No. TX2014-000458
             The Honorable Christopher T. Whitten, Judge

                             AFFIRMED


                              COUNSEL

Daniel T. Garrett, LLC, Woodruff
By Daniel T. Garrett
Counsel for Plaintiff/Appellant

Arizona Attorney General’s Office, Phoenix
By Macaen F. Mahoney, Kenneth J. Love
Counsel for Defendant/Appellee



                              OPINION

Judge Lawrence F. Winthrop delivered the opinion of the Court, in which
Presiding Judge Randall M. Howe and Judge Jon W. Thompson joined.
                            AEPCO v. ADOR
                           Opinion of the Court


W I N T H R O P, Judge:

¶1            Arizona Electric Power Cooperative, Inc. (“AEPCO”) appeals
the tax court’s summary judgment in favor of the Arizona Department of
Revenue (“the Department”). Because AEPCO’s purchases of coal and
natural gas are subject to use tax, we affirm the judgment of the tax court.

           FACTUAL AND PROCEDURAL BACKGROUND

¶2           AEPCO, a non-profit Arizona cooperative corporation, owns
and operates the Apache Generating Station, an electric generation facility
in Cochise County. AEPCO sells most of the electricity it produces to
cooperative members, and sells the remainder to the general electricity
market.

¶3             To generate electricity, AEPCO uses coal and natural gas,
most of which AEPCO purchases from out-of-state suppliers, who are not
subject to Arizona’s transaction privilege tax. AEPCO originally paid use
tax on those purchases, but later filed two refund claims with the
Department, requesting a refund of use tax paid between 2003 and 2010.1
The Department denied both claims. After an unsuccessful protest before
the Office of Administrative Hearings, AEPCO appealed the Department’s
final order to the tax court pursuant to Arizona Revised Statutes (“A.R.S.”)
section 42-1254(C) (2013).2

¶4           In the tax court, the parties filed cross-motions for summary
judgment. The tax court granted the Department’s motion and denied
AEPCO’s cross-motion, determining that AEPCO’s purchases of coal and
natural gas were subject to use tax. After entry of final judgment in favor
of the Department, AEPCO timely appealed. We have jurisdiction
pursuant to A.R.S. §§ 12-120.04(G) (2016), -120.21(A)(1) (2016), and -170(C)
(2016).




1      The first claim sought a refund of $4,199,440.88 for tax paid between
August 2003 and July 2007. The second claim sought a refund of
$3,089,540.09 for tax paid between June 2007 and June 2010.

2     We cite the current version of all statutes because no revisions
material to this decision have occurred since the applicable time period.


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                              AEPCO v. ADOR
                             Opinion of the Court

                          STANDARD OF REVIEW

¶5             This court reviews de novo the tax court’s grant of summary
judgment and its interpretation of relevant statutes. See CCI Europe, Inc. v.
Ariz. Dep’t of Revenue, 237 Ariz. 50, 52, ¶ 7, 344 P.3d 352, 354 (App. 2015).
Although we liberally construe statutes imposing taxes in favor of
taxpayers, we strictly construe tax exemptions, given the general policy that
all taxpayers should share the common burden of taxation. State ex rel. Ariz.
Dep’t of Revenue v. Capitol Castings, Inc., 207 Ariz. 445, 447, ¶ 10, 88 P.3d 159,
161 (2004). We apply these standards to determine whether AEPCO’s
purchases of coal and natural gas from out-of-state vendors are subject to
Arizona’s use tax.

                                  ANALYSIS

       I.     AEPCO’s Purchases of Coal and Natural Gas Are Within the Scope
              of A.R.S. § 42-5155

¶6             AEPCO first argues that its purchases of coal and natural gas
fall “outside the scope of the Arizona use tax as nontaxable purchases for
resale.”

¶7             Arizona law imposes a use tax “on the storage, use or
consumption in this state of tangible personal property purchased from a
retailer or utility business.” A.R.S. § 42-5155(A) (Supp. 2015). “Tangible
personal property” is defined as “personal property which may be seen,
weighed, measured, felt or touched or is in any other manner perceptible to
the senses.” A.R.S. § 42-5001(17) (Supp. 2015). In contrast to the transaction
privilege tax, which is imposed on transactions consummated within
Arizona, a use tax is designed to reach out-of-state sales of tangible personal
property to Arizona purchasers. Qwest Dex, Inc. v. Ariz. Dep’t of Revenue,
210 Ariz. 223, 225, ¶ 12, 109 P.3d 118, 120 (App. 2005) (citing People of Faith
Inc. v. Ariz. Dep’t of Revenue, 161 Ariz. 514, 519, 779 P.2d 829, 834 (Tax Ct.
1989); Nathaniel T. Trelease & Andrew W. Swain, The Law’s Long Arm: The
Taxation of Electronic Commerce, Ariz. Att’y, June 2002, at 20). The use tax
statutes create a presumption that property purchased out-of-state and
brought into Arizona is intended for storage, use, or consumption within
the state, see A.R.S. § 42-5152 (2013), and the taxpayer has the burden of
rebutting that presumption.

¶8            The Arizona Legislature has defined the term “use or
consumption” as “the exercise of any right or power over tangible personal
property incidental to owning the property except holding for sale or selling
the property in the regular course of business.” A.R.S. § 42-5151(22) (Supp.


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                             AEPCO v. ADOR
                            Opinion of the Court

2015) (emphasis added). Pursuant to § 42-5151(22), tangible personal
property purchased for resale is not subject to use tax. See Motorola, Inc. v.
Ariz. Dep’t of Revenue, 196 Ariz. 137, 138, ¶ 4, 993 P.2d 1101, 1102 (App. 1999)
(“The tax does not extend to items for sale.”).

¶9           Applying this definition, AEPCO argues that its purchases of
coal and natural gas are for resale and, therefore, fall outside the scope of
the use tax. In support of its position, AEPCO offered expert testimony,
which explained as follows:

               Electric generation facilities do not produce, create or
       make electricity out of nothing. Electric generation facilities
       purchase coal and natural gas for the chemical energy that is
       in the coal and natural gas. Electric generation facilities
       convert the chemical energy in the coal and natural gas into
       electrical energy (electricity) for resale.

The Department’s expert disagreed, contending that “[h]eat engines in a
power plant (gas turbines and/or steam turbines) consume fuel (natural
gas or coal) by combusting that fuel with air.”

¶10            The parties’ experts agreed that the generation of electricity
involves a multi-step process that begins with the combustion of fuel. In
gas turbines, the combustion produces an exhaust stream that rotates a
power turbine, which in turn causes the generator to rotate. In steam
turbines, the combustion produces steam that rotates a steam turbine,
which in turn causes the generator to rotate. The experts also agreed that
“[i]n both cases the rotating generators transform mechanical energy into
electromagnetic energy, then into electrical energy, which finally drives the
flow of electric charge (i.e. electric current, electricity).”3

¶11            Because the language of § 42-5155 is plain and unambiguous,
we “apply the language used.” City of Mesa v. Killingsworth, 96 Ariz. 290,
294, 394 P.2d 410, 412 (1964). Pursuant to § 42-5155, any person storing,
using, or consuming tangible personal property purchased out-of-state is
liable for use tax. See A.R.S. § 42-5155(E); Qwest Dex, 210 Ariz. at 225, ¶ 12,
109 P.3d at 120. AEPCO clearly uses and consumes coal and natural gas to
generate electricity. Accordingly, because the fuel is purchased from



3       AEPCO’s plant consists of four gas-fired combustion turbines, one
gas-fired steam boiler electric generator, and two coal/gas-fired steam
electric power generators.


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                             AEPCO v. ADOR
                            Opinion of the Court

out-of-state vendors, AEPCO is liable for Arizona use tax. See Qwest Dex,
210 Ariz. at 225-26, ¶ 12, 109 P.3d at 120-21.

¶12             AEPCO has failed to rebut the statutory presumption or
otherwise demonstrate that its fuel purchases fall outside the scope of the
tax. See A.R.S. § 42-5152. AEPCO’s expert’s testimony does not adequately
explain how AEPCO “holds” coal and natural gas for sale or for selling in
the regular course of business. See A.R.S. § 42-5151(22). To the contrary,
the evidence reflects that AEPCO uses and consumes the fuel in the process
of generating electricity. See Farrand Coal Co. v. Halpin, 140 N.E.2d 698, 701
(Ill. 1957) (explaining that “[i]t is difficult to perceive how there could be a
more complete use or consumption of the coal” than by burning or
combustion). AEPCO’s expert admitted that, at the end of the electric
generation process, the coal and natural gas no longer have the same
“chemical composition” they had at the beginning of the process. He also
agreed that no part of the mass of coal or natural gas becomes part of the
electricity. Rather, the fuels are combusted at the beginning of the
generation process.

¶13          Accordingly, we conclude that AEPCO’s out-of-state
purchases of coal and natural gas are subject to Arizona use tax.

       II.    AEPCO’s Purchases of Coal and Natural Gas Are Not Exempt
              Under A.R.S. § 42-5159

¶14              Alternatively, AEPCO argues that its purchases of coal and
natural gas are exempt from use tax pursuant to A.R.S. § 42-5159(A)(4)
(Supp. 2015), which exempts from use tax all “[t]angible personal property
that directly enters into and becomes an ingredient or component part of any
manufactured, fabricated or processed article, substance or commodity for
sale in the regular course of business.” (Emphasis added.) Applying § 42-
5159(A)(4), AEPCO argues that “the coal and natural gas, or a part thereof,
. . . directly enters into and becomes an ingredient or component part of the
electricity generated by AEPCO.”

¶15          Under the Department’s use tax regulations, “[t]he sale of fuel
used or consumed in a manufacturing process is taxable,” and “[t]he fuel is
not considered to be incorporated into the manufactured product.” Ariz.
Admin. Code R15-5-121; see also Harris Corp. v. Ariz. Dep’t of Revenue, 233
Ariz. 377, 383, ¶ 21, 312 P.3d 1143, 1149 (App. 2013) (recognizing that,
“[a]lthough not binding, the Department’s regulations are entitled to
considerable weight”). The same reasoning that applies to fuels consumed
in manufacturing also applies to fuels consumed in electric generation. At



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                             AEPCO v. ADOR
                            Opinion of the Court

AEPCO’s plant, the coal and natural gas are combusted to rotate the gas or
steam turbines. The fuels are consumed in the process of generating
electricity. They do not directly enter into or become an ingredient or
component part of the electricity as required by § 42-5159(A)(4).

¶16            Our conclusion is consistent with a decision by the California
Court of Appeal in Searles Valley Minerals Operations, Inc. v. State Board of
Equalization, 72 Cal. Rptr. 3d 857 (Cal. Ct. App. 2008). In Searles, the court
held that coal purchased out-of-state and used in California to generate
electricity was subject to use tax.4 72 Cal. Rptr. 3d at 866. The court
reasoned that “the uncontroverted evidence at trial establishes that the
coal’s physical mass is combusted, and thus destroyed, in creating the heat
necessary to make the steam and that no component of that mass becomes
part of the electricity that the Taxpayers generate.” Id. at 865. The court
also concluded that “none of the coal’s physical mass ends up as a
component of the electricity.” Id. The same is true here.

¶17            Moreover, as the Department points out, § 42-5159 reflects the
Arizona Legislature’s willingness to expressly exempt fuels from taxation
in specific situations. See, e.g., A.R.S. § 42-5159(A)(31) (exempting coal and
natural gas “directly used or consumed in the generation or provision of
on-site power or energy solely for environmental technology
manufacturing, producing or processing or environmental protection”);
-(42) (exempting alternative fuels purchased by a used oil fuel burner); -(45)
(exempting gas used or consumed for the sole purpose of fueling
compressor equipment that pressurizes a pipeline). “The provision of one
exemption in a statute implicitly denies the existence of other unstated
exemptions.” State Comp. Fund v. Superior Court (EnerGCorp, Inc.), 190 Ariz.
371, 375-76, 948 P.2d 499, 503-04 (App. 1997) (citing Estate of Tovrea v. Nolan,
173 Ariz. 568, 573, 845 P.2d 494, 499 (App. 1992); State v. Roscoe, 185 Ariz.
68, 72, 912 P.2d 1297, 1301 (1996)).

¶18          Accordingly, we determine that AEPCO’s purchases of coal
and natural gas are not exempt from use tax under § 42-5159(A)(4).



4       The use tax statutes of Arizona and California are similar. Compare
A.R.S. § 42-5155(A) (imposing a tax “on the storage, use or consumption in
this state of tangible personal property purchased from a retailer”), and
A.R.S. § 42-5151(22) (defining the term “use or consumption”), with Cal.
Rev. & Tax. Code § 6201 (imposing a tax “on the storage, use, or other
consumption in this state of tangible personal property purchased from any
retailer”), and Cal. Rev. & Tax. Code § 6009 (defining the word “use”).


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                           AEPCO v. ADOR
                          Opinion of the Court

                             CONCLUSION

¶19           For the foregoing reasons, we affirm the judgment of the tax
court, holding that AEPCO’s purchases of coal and natural gas from out-of-
state vendors are subject to use tax. We award the Department its costs on
appeal upon compliance with Arizona Rule of Civil Appellate Procedure
21.




                           AMY M. WOOD • Clerk of the Court
                           FILED: AA




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