From VA Tax Department: Labor Is Not Taxable. But It Depends on the Definition of Labor.

June 3, 2022

By Michael G. Charapp
Charapp & Weiss LLP


Several auto repair shops, including some new car dealers, have recently been subject to retail sales tax audits by the Tax Department. One issue that has caused a lot of confusion is the taxation of diagnostic fees.

Most dealers would say that labor is not taxable.  Since diagnostic fees are labor, the fees are, therefore, not taxable. That is a pretty good argument.

However, the answer according to the Tax Department is not that simple.

The complexity comes from the Tax Department analysis of two different exemptions as follows:

  • 58.1-609.5. Service exemptions.

The tax imposed by this chapter or pursuant to the authority granted in § 58.1-605 or 58.1-606 shall not apply to the following:

    1. Professional, insurance, or personal service transactions which involve sales as inconsequential elements for which no separate charges are made; services rendered by repairmen for which a separate charge is made; and services not involving an exchange of tangible personal property which provide access to or use of the Internet and any other related electronic communication service, including software, data, content and other information services delivered electronically via the Internet.
    2. An amount separately charged for labor or services rendered in installing, applying, remodeling, or repairing property sold or rented….

The exemption in paragraph 2 is the one on which proponents of non-taxability of diagnostic fees rely, the exemption for repair labor. But, according to the analysis of the Tax Department, diagnostic fees must be considered under paragraph 1 where the exemption only applies to pure service with no tangible personal property (e.g. parts) included.

So what does this mean? According to the Tax Department, if the customer brings in a vehicle, the dealer charges a fee for diagnostics to determine the problem, and the customer does not have any repairs made, then the diagnostic fee is not taxable. If, however, the dealer repairs the customer’s car, then the diagnostic fee included on the repair order is taxable.

That makes no sense to us. But it is the current position of the Tax Department.

We are considering options to change this interpretation. But, in the meantime, dealers who charge a diagnostic fee followed by repairs must be sure they are collecting and remitting the correct amount of retail sales tax on that fee or must be prepared to challenge the Tax Department.