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.

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.
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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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