Colorado’s sales tax exemption for manufacturing equipment removes the state’s 2.9% sales and use tax from qualifying machinery, machine tools, and parts, under C.R.S. § 39-26-709. To qualify, the equipment has to meet four criteria at once, and the exemption does not automatically reach sales taxes charged by home-rule cities such as Denver, Aurora, Colorado Springs, Boulder, and Fort Collins.
The Four Criteria Your Equipment Must Meet
Miss any single one and the full state and state-administered local sales tax applies.
- Used in Colorado. The equipment has to operate inside the state. Machinery bought here but shipped to an out-of-state plant does not qualify.
- Purchased for more than $500. The statute reads “in excess of five hundred dollars,” so a $500 purchase misses by a penny. The threshold is per unit, not per invoice. Ten tools at $100 each do not qualify even though the invoice totals $1,000.
- Section 38 property. The equipment has to be the type that would have qualified for the federal investment tax credit under Section 38 of the Internal Revenue Code of 1954. In practice that means depreciable tangible personal property with a useful life of three years or more. Office furniture and buildings generally do not count.
- Used directly and predominantly in manufacturing. The machine has to spend more than 50% of its operating time on actual production of tangible personal property for sale or profit. Idle time and maintenance time do not count toward either side of that calculation.
The Section 38 test is the one buyers most often misread. It filters out short-lived consumables, general-purpose office equipment, and real property improvements even when those items sit on a factory floor.
What Counts as Manufacturing
Under the statute, manufacturing means producing a new product that has a different name, character, or use from the raw or prepared materials that went into it. Cutting lumber into boards qualifies. Sorting and repackaging goods generally does not, because the underlying product stays the same.
Direct use starts when raw material leaves plant inventory on a contiguous plant site and ends when the product reaches its completed form, including packaging if packaging is part of the finished good. Equipment that moves material from one production step to the next in a continuous flow counts. Equipment used for in-process testing during production counts as well.
What Does Not Qualify
The split between exempt and taxable often comes down to where the machine sits in the production sequence. A conveyor feeding raw material into a stamping press qualifies. A conveyor loading finished cartons onto delivery trucks does not. The dividing line is whether the equipment touches the product before or after manufacturing is complete.
Machinery used for repair, maintenance, or general upkeep of other equipment is not direct manufacturing use, even when the serviced equipment is itself exempt. Office computers, forklifts that only move finished inventory in a warehouse, and HVAC systems for employee comfort areas all fall outside.
Replacement parts installed in qualifying machinery are eligible as long as the underlying machine still meets all four criteria. Supplies consumed during routine maintenance of the machine, such as lubricants or cleaning solvents, do not.
Home-Rule Cities Are a Separate Problem
The state exemption covers Colorado’s 2.9% state sales tax and the local sales taxes the Department of Revenue administers for statutory cities and counties. It does not cover sales and use taxes administered by home-rule cities, and Colorado has dozens of them. Denver, Colorado Springs, Aurora, Boulder, and Fort Collins each set their own exemption rules. Some mirror the state exemption for manufacturing equipment, others do not.
Before treating a purchase as fully tax-free, contact the home-rule city where the equipment will be used and ask whether it offers a comparable exemption. The Department of Revenue will not step into home-rule tax disputes.
Claiming the Exemption at the Time of Purchase
The cleanest route is to claim the exemption before any tax changes hands. Complete Form DR 1191, “Sales Tax Exemption on Purchases of Machinery and Machine Tools,” and give it to the vendor at or before the sale. The form requires your legal business name, address, Colorado tax account number, and a description of the machinery and how it will be used in manufacturing. One copy goes to the seller, a second to the Department of Revenue, and you keep the third.
The DR 1191 is the vendor’s documentation for not collecting state sales tax. The accuracy of what is on that form is your responsibility. If an audit later finds the equipment did not actually qualify, the tax liability lands on the buyer, not the vendor.
Claiming a Refund After You Have Already Paid
If you paid Colorado sales tax on equipment that should have been exempt, there is a required first step businesses often skip: you have to try to recover the overpaid tax from the retailer first. Only if the retailer cannot or will not issue the refund do you move to Form DR 0137B, the Claim for Refund of Tax Paid to Vendors.
The DR 0137B asks for the date of purchase, vendor name, and the exact amount of state sales tax paid. The Department of Revenue prefers electronic filing through Revenue Online at Colorado.gov/RevenueOnline, though a paper form is accepted. Attach invoices showing per-unit pricing to prove the $500 threshold is met, and keep evidence that you first asked the vendor for the refund.
Refund claims generally have to be filed within three years of the date the tax was paid. Review can take several weeks to several months depending on claim volume. Approved claims are paid by check or credit. If the claim is denied, you receive a written explanation and may protest the denial.
Related Exemptions and Credits Worth Checking
Electricity, coal, natural gas, fuel oil, steam, coke, and nuclear fuel are exempt from state sales tax when consumed directly in manufacturing. If a facility uses gas or electricity for both exempt production and non-exempt uses such as office lighting, tax is owed on the non-exempt portion. The allocation is typically documented on Form DR 1666, the Sales Tax Exempt Certificate for Electricity and Gas for Industrial Use.
Manufacturers located in a Colorado enterprise zone can also claim a state income tax credit equal to 3% of qualifying business personal property investments, including manufacturing machinery. The equipment has to be used exclusively in the zone during the first year of ownership. Used equipment qualifies, but used-property purchases are capped at $150,000 per year. The annual credit is limited to the lesser of net tax liability, $5,000 plus 50% of net tax liability exceeding $5,000, or $750,000, with a 14-year carryforward on unused credit. Applications are due by December 31 of the tax year the investment was made.
Records to Keep
The burden of proof on an exemption sits with the business claiming it. For each exempt purchase, keep the purchase invoice showing per-unit pricing, a copy of the DR 1191 submitted to the vendor, documentation of how the machine is used and what share of its operating time is manufacturing, and support for the Section 38 property determination.
For the energy exemption, track the split between manufacturing and non-manufacturing use of electricity and gas. If you claimed the enterprise zone credit, keep the application and supporting records at least as long as the carryforward window remains open. Thin records are the most common reason an otherwise valid exemption fails on audit.