Arizona Sales Tax for Contractors: How Prime Contracting TPT Works

Short answer: Arizona does not have a general sales tax. It has transaction privilege tax (TPT), and contracting is one of its taxable classifications, so the tax is legally on you rather than on your customer. Under ARS 42-5075 the prime contracting tax base is 65 percent of gross proceeds — labor included. Maintenance, repair, replacement, and alteration work usually falls outside prime contracting, but the materials get taxed instead.

Contractors arriving from another state go looking for the rule about whether labor is taxable and cannot find it, because Arizona is not built that way. TPT is a tax on the privilege of doing business in the state, administered by the Arizona Department of Revenue, and contracting is one of its named classifications. Federal income tax is separate, with the IRS, and TPT does not reduce what you set aside for it — how much to set aside for 1099 taxes covers that. Licensing follows a different threshold entirely, on Arizona contractor license requirements.

Does Arizona charge sales tax on contracting work?

Not in the way that phrase usually means. In a sales tax state the tax is on the buyer and you collect it as an agent. Arizona instead levies, under ARS 42-5008, “privilege taxes measured by the amount or volume of business transacted by persons on account of their business activities” — so the taxpayer is the person conducting the taxable business. You. You may pass the amount through, and virtually everyone does, but the liability is yours whether or not you collected it. “The homeowner would not pay the tax” is not a defense at audit, because the homeowner was never the taxpayer.

The state-level rate on the prime contracting classification is five percent of the tax base under ARS 42-5010(A)(1), plus the additional six-tenths of one percent increment in ARS 42-5010.01, which runs from and after June 30, 2021 through June 30, 2041 — 5.6 percent at state level as of this July 2026 review. County excise and city privilege tax sit on top of that, so what you actually remit is state plus county plus city, keyed to where the project is rather than where your office or your supply house is. Arizona cities administer their own contracting privilege tax through the same combined return, which is why a contractor working across the Valley can face a different combined rate on every job. Confirm the current combined rate for the job’s exact address with the Arizona Department of Revenue before you quote.

What is the prime contracting tax base in Arizona?

Sixty-five percent of gross. ARS 42-5075(B) states it plainly: “The tax base for the prime contracting classification is sixty-five percent of the gross proceeds of sales or gross income derived from the business.”

It is a flat 35 percent standard deduction against the whole contract, approximating the land and labor component — not a labor exemption. Your labor, overhead, profit, permit fees, and payments to subcontractors all sit inside the gross being multiplied by 65 percent.

Contract amount	Prime contracting tax base	State-level TPT at 5.6%
$10,000	$6,500	$364
$50,000	$32,500	$1,820
$250,000	$162,500	$9,100

That third column is state only. County and city rates apply to the same 65 percent base, so the figure you actually remit is larger — often materially so — and it changes with the job site.

A “prime contractor” is defined in ARS 42-5075 as one who supervises, performs, or coordinates the modification of any building, highway, road, railroad, excavation, manufactured building, or other structure, project, development or improvement, including any contracting with subcontractors, and who is responsible for completing the contract. The prime reports and pays. Subsection D provides that subcontractors performing modification activities are not subject to the tax if they can demonstrate the job was within a prime contractor’s control and that the prime is liable for the tax on the receipts they were paid from, and subsection E lets the hiring party execute a certificate stating it is the prime contractor liable for the tax. Get that certificate rather than relying on an assumption — subsection D puts the burden of demonstrating it on you.

What counts as modification versus MRRA in Arizona?

Modification is defined in ARS 42-5075 itself, and the definition is short: “construction, grading and leveling ground, wreckage or demolition.” Anything meeting that description is taxable under prime contracting at the 65 percent base. Note how little the definition needs — putting in something that was not there before is construction, not repair, and the word “construction” is doing most of the work in practice.

MRRA is maintenance, repair, replacement, or alteration of existing property. ARS 42-5075(P) provides that gross income from a contract with the owner of real property for the maintenance, repair, replacement or alteration of existing property “is not subject to tax under this section if the contract does not include modification activities.”

Note the condition: MRRA treatment requires that the contract contain no modification activities at all. Mixed scopes are the classic Arizona trap — a repair contract that quietly includes a new circuit or a new slab is not a clean MRRA job, and treating it as one understates the tax on the whole contract.

When does an alteration lose MRRA treatment?

At a threshold that depends on property type — one of the few places Arizona uses a value ratio rather than a flat number.

Property type	Alteration stays MRRA if…
Existing residential property (class two used for residential purposes, class three, class four)	The contract amount is not more than 25 percent of the most recent full cash value, measured at the bid date or the contract date, whichever value is higher
All other existing property	The contract amount is not more than $750,000

Both figures come from ARS 42-5075(S)(1). The residential test compares your contract to the county assessor’s full cash value for that parcel, so the same $90,000 alteration can be MRRA on one house and taxable prime contracting on a cheaper one down the street. Check the assessed value before you sign.

Change orders directly relating to the original scope follow the original contract’s treatment, but additions that push an alteration past the threshold change the answer for the project. If the scope is growing, re-run the test.

How are materials taxed on an Arizona MRRA job?

They do not escape. ARS 42-5075(P)(1) provides that tangible personal property incorporated or fabricated into an MRRA project may be subject to the amount prescribed in ARS 42-5008.01, which imposes liability “equal to any tax that a seller would have been required to pay” under the retail provisions, plus applicable local tax — calculated and reported based on the location of the project, not the supply house.

In practice an MRRA contractor is the end consumer of the materials. You pay retail-level tax on them, either at the counter or through that liability provision if you bought under an exemption certificate. The statute also lets the hiring contractor assume the liability by executing and providing a certificate.

So the two regimes are not “taxed” versus “untaxed.” They are taxed on 65 percent of everything, versus taxed on materials at the retail rate. On a labor-heavy repair, MRRA is dramatically cheaper; on a materials-heavy replacement, the gap narrows.

When do you need an Arizona TPT license?

Before you start, not after your first invoice. ARS 42-5005 requires every person receiving gross proceeds or income on which TPT is imposed to apply for an annual transaction privilege tax license, and is explicit about timing: “A person shall not engage or continue in business until the person has obtained a transaction privilege tax license.”

Three details catch small operators:

• You need a license for each location or business name if you operate under more than one.
• The license is not transferable on a complete change of ownership or of business location — you surrender it and reapply.
• The statutory fee is $12 annually per license; cities charge their own licensing fees on top, which vary by jurisdiction.

A one-person MRRA operation that never owes prime contracting tax may still need registration, because it attaches to conducting the business, not to the liability.

How should an Arizona contractor show TPT on an invoice?

Since the tax is yours, the invoice is a commercial document rather than a tax collection form — but write it as though an auditor will read it. Make four things clear:

• The project address, since the rate follows the job site.
• Whether the work is treated as modification or MRRA.
• The contract amount and, if you pass tax through, the amount added and the rate used.
• For MRRA work, enough materials detail to show what tax was paid and where.

That last one is most often missing. General structure is covered in what to include on an invoice; the Arizona-specific additions are the project location and the regime you applied.

What records does Arizona TPT require you to keep?

A TPT review asks you to reconstruct, per project: the contract amount, the scope as signed, any change orders, the classification applied, the jurisdiction’s rate, and the tax paid on materials. For an alteration near the 25 percent line, you also need the full cash value you relied on and the date you measured it. How long to keep tax records covers retention.

Keel is an iOS app built for that trail, and it keeps it entirely on the device — no account, no bank connection, no cloud sync, and an App Store privacy label reading Data Not Collected. It makes invoice PDFs with your own numbering, logo, and a payment-link QR code; captures material receipts read on-device with Apple Intelligence; logs mileage between job sites; and writes it all into an append-only, hash-chained ledger you export as one file per year or as an Accountant Pack. Free is $0 with unlimited invoices, receipts, and mileage; Keel Pro is a one-time $249.99 Lifetime purchase.

Keel does not file your TPT return, classify your contracts, or talk to the Department of Revenue. It is a record keeper — a dated, per-project history to hand to whoever does file.

Frequently asked questions

Is labor taxable in Arizona for contractors?

There is no separate labor exemption. Under the prime contracting classification, the tax base is 65 percent of gross proceeds, and labor sits inside that gross alongside materials, overhead, profit, and payments to subcontractors. The 35 percent that comes out is a flat statutory deduction, not a labor carve-out, so itemizing labor separately on the invoice does not shrink the base.

Is Arizona TPT the same as sales tax?

No. Sales tax is imposed on the buyer and collected by the seller as an agent. Arizona’s transaction privilege tax is imposed on the person conducting the business, so a contractor owes it whether or not it was passed through to the customer. That is why a client refusing to pay a tax line does not remove your liability for the amount.

What is the difference between modification and MRRA in Arizona?

ARS 42-5075 defines modification as construction, grading and leveling ground, wreckage or demolition, and modification is taxable under prime contracting at the 65 percent base. MRRA is maintenance, repair, replacement, or alteration of existing property, and it falls outside prime contracting only if the contract includes no modification activities at all. MRRA materials are taxed at retail level instead, based on the location of the project.

When does an alteration become taxable prime contracting?

For existing residential property, when the contract amount is more than 25 percent of the most recent full cash value, measured at the bid date or contract date, whichever value is higher. For all other existing property, when the contract amount is more than $750,000. Both figures are in ARS 42-5075(S)(1).

Do I need an Arizona TPT license if I only do repairs?

Very likely yes. ARS 42-5005 ties the license to engaging in business, and states you may not engage or continue in business until you have obtained one. A repair-only operator still has materials liability and still conducts a taxable business. Confirm your specific situation with the Department of Revenue and with the cities you work in.

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This article is general information, not legal or tax advice. Rules change — confirm with the authority named above.