State Sales and Transaction Taxes of IT Products and Services: - PowerPoint PPT Presentation

Question 1: What is the service or product? • General Principles: − Under New York law, the tax authorities focus on the service in its entirety and do not break it down into components, even if as an ancillary matter information is provided. SSOV at p. 6 − Under law of most states, provider’s use of software or other taxable products/ services to produce the service, does not cause the end product to be taxable. • OH Rule 5703-9-46(B)(3)(b) provides a good explanation of test, by characterizing a service as merely incidental or supplemental and not deemed taxable data processing or computer services if – The data processing services are merely utilized by the provider in the performance or delivery of personal or professional services; or – The benefit sought to be received by the consumer from the services is a personal or professional service. • SSOV (NY) : “We cannot accept the Division’s argument that the means by which a service is provided is the controlling factor in determining “taxability.” Strafford 15

Question 1: What is the service or product? • Determination of the true object – Generally, based on what the purchaser was buying as promoted by the seller • Sources for determination – Marketing materials/website – Contract – Invoices – Accounting records (Account number to which revenue is booked) – See, e.g., Qualcomm, Inc. v. WA Dept of Revenue , 213 P.3d 348 (WA Ct. App. 2009), determining whether data processing service or telecommunications service based on the primary purpose or true object, as determined from marketing materials and invoices. Strafford 16

Question 1: What is the service or product? • Troublesome characterizations in contracts/invoices or accounts to which revenue is booked – Warrants review and analysis • Factors in characterization for taxability purposes: – Ownership of equipment • Data Processing • Services re servers and telecommunications equipment – Where the service takes place in the case of data processing and storage. Strafford 17

Question 1: What is the service or product? • Special issues as to how the property is delivered – Some states do not tax electronically delivered software. See, e.g., CO Stat. § 39-26-102(15) amended by Ch. 299 (H.B. 1293) – Some states treat electronically delivered software as not tangible personal property. See, e.g., .” Fla. Admin. Code r. 12A-1.062(5) and TAA 02A-052 (11/20/02). Strafford 18

Question 1: What is the service or product? • Special issues whether product is tangible personal property – Customized software vs pre-written • Some states treat pre-written as tangible personal property but customized software as services and not taxable. See, e.g., Colo Rev Stat § 39-26-102(15) amended by Ch. 299 (H.B. 1293), Laws 2011 • TX treats customized software as TPP. See 34 TAC3.308(b)(2) • Special issues whether sale of certain services are part of sales price for software – Installation: Taxable as part of the sales price in TX and other states. See, e.g., 34 TAC3.308(b)(2) Strafford 19

Question 1: What is the service or product? • Special issues whether sale of certain services are part of sales price for software – Maintenance: • Taxable in KS even if charge separately stated: Kan. Stat. Ann. § 9-3603(q). • Not taxable in some states if charges separately stated. N.Y. Tax Law §1115(o). N.Y. Dep’t of Taxation and Finance, Taxpayer Servs. Div., Tech. Servs. Bureau, TSB-M-93 (3) S (Mar. 1, 1993). • Not taxable in states if maintenance of customized software, but taxable if maintenance of pre-written software. See WI Rule 11.71. Strafford 20

Question 2: Is it a bundled service/product or separate services/products? • “ One bad apple spoils the bunch” in most cases and states – A price for a bundle of separate products and services in which one product is taxable and another product/service is not taxable means that the entire charge is taxable • NY cheeseboard rule. N.Y. Comp. Codes R & Regs. Tit. 20, section 527.1(B) – Cardinal Principle: Separately price and invoice separate charges for different services/products Strafford 21

Question 2: Is it a bundled service/product or separate services/products? • NY Cheeseboard Rule followed in most states, with some exceptions even when pricing is not separately provided: – Internet Tax Freedom Act: Combination of telecom services with Internet services may be separated into taxable and non-taxable Internet access (if state is grandfathered) if provider can reasonably identify the charges for Internet access from its books and records kept in the regular course of business. ITFA, § 1106, 47 U.S.C. 151 note. – Most state laws permit a provider of telecom services to separate taxable telecom charges from non-taxable telecom charges based on its books and records. Strafford 22

Question 2: Is it a bundled service/product or separate services/products? • Exceptions to NY Cheeseboard Rule – Section 330 of SSUTA provides for “unbundling” of certain services (based on costs), including telecom services, ancillary service, Internet access and audio/video programming services. – TX: Data Processing and Information Services Rules permits unbundling of data processing charges when bundled with non-taxable and taxable charges. 34 Tex. Admin. Code Section 3.330(d)(2) and 3.342(e)(2). Strafford 23

Question 2: Is it a bundled service/product or separate services/products? • Separate pricing of products/services has limits: – If service is auxiliary or related to main product that is taxable then the auxiliary service may be deemed taxable • E.g. shipping and handling for software • Installation for computers and software • Overhead items such as labor costs in providing a data processing service. • TX rule regarding related services (data processing): – 34TAC3.330(d)(3) (“ Charges for services or expenses directly related to and incurred while providing the taxable service are taxable and may not be separated for the purpose of excluding these charges from the tax base. Examples would be charges for meals, telephone calls, hotel rooms, or airplane tickets .”) – 34TAC3.330(d)(1) provides that a service is unrelated if it is commonly sold on a stand alone basis and is a distinct service from the data processing service. Strafford 24

Question 3: To what state or states is the service/product sourced? • General rule regarding sourcing of tangible personal property: • No universal rule regarding sourcing of services. – Non-SSUTA states • If related to tangible personal property, then generally sourced where tangible personal property is located. • If pure service, then generally taxed where service is received, except for FL’s tax on use of a server located in FL and Chicago’s tax on lease of personal property insofar as storage space (but not on data processing/information services.) – The location of the terminal for access to the service controls. See, e.g.. NYS (TSB-A-10(52)S 10/18/10); CT (ADC 12-426-27(d)); TX (Rules 3.330 and 3.342). – Issue is the proof of where the service is received and method of allocation Strafford 25

Question 3: To what state or states is the service/product sourced? • Sourcing: SSUTA waterfall approach (OH: R.C.5739.033(C)) – If service received (i.e., first use) at the vendor’s place of business, sourced at the vendor’s place of business . – If not received at the vendor’s place of business, sourced at the location of receipt known to the vendor. – If neither of the above, then sourced at the address of the customer, as known from the vendor’s business records . – If none of the above, then the address given in the transaction. – If none of the above, from where the service was provided. Strafford 26

Question 3: To what state or states is the service/product sourced? • Receipt of service at more than one location – NY, CT, DC rules are generally silent on multi-office access. • In TSB-A-10(52)S (10/18/10), New York permitted apportionment based on the ratio of New York-based employees with access to the service to the number of employees located throughout the U.S. with access. • In TSB-A-03(5)S,(1/31/03), acceptance of certificate relieved provider of liability for non-NY employees so long as provider obtains detailed information regarding address of employees of customer. Provider still liable for tax for NY-based employees. Strafford 27

Question 3: To what state or states is the service/product sourced? • Receipt of service at more than one location – TX: Rules 3.330(f)(Data Processing) and 3.342(g)(Information Services) provide a more straightforward approach. • The general theme is for the purchaser to identify the segment of the business that the service benefits, and then issue an exemption certificate to the service provider that provides for a reasonable method of allocation. (TX exemption certificate comparable to the certificate of multiple points of use where the provider is relieved of all liability for TX tax on these services) • Note: Differences in burden: Provider may accept the certificate in good faith. Customer must prove by clear and convincing evidence that the service relates to an identifiable segment of the business and then can allocate outside of TX; if not able to do so the presumption is that the 100% of the service is provided at headquarters. See ( Comptroller Decision in Hearing No. 106,058 (5/31/2013)(CCH ¶ 403-909 )) Strafford 28

Question 3: To what state or states is the service/product sourced? • Receipt of service at more than one location – TX: does not permit exemption certificate to exempt from tax collection by provider portion of services other than data processing and information services, allocated to TX. – OH approach: R.C. 5739.033(D)(Applies to purchase of software, digital goods and data processing services) • If the purchaser does not have a direct pay permit, the purchaser may deliver a certificate of multiple points of use and the vendor is relieved of collection responsibility for entire tax, and the purchaser may use any reasonable, consistent and uniform method of apportioning purchases by jurisdiction. • A purchaser who has a direct pay permit may rely on the direct pay permit in lieu of the MPU Certificate Strafford 29

Question 3: To what state or states is the service/product sourced? • OH approach re multiple points of use • In the absence of an exemption certificate and direct pay permit, the vendor and customer can work out a reasonable, consistent and uniform method of apportionment. If the customer certifies to the same, then this method governs and the provider pays tax on the OH percentage. • In the absence of any of the foregoing, the all or nothing waterfall provisions apply. • SSUTA waterfall approach. SSUTA repealed the certificate of multiple points of use provision. Strafford 30

Question 4: Does the State Tax The Product or Service? • Varies by state • Most states do not tax services such as data processing, information services and computer consulting services • Many states do tax services related to installation and maintenance/repairs of computer equipment and software. • Many states tax telecommunications services, although some states do not tax interstate telecommunications services. – Note special provisions for private line services Strafford 31

Question 5: Are Any Exemptions Available? • Resale Exemption – In eight states resale exemptions do not apply to taxable services. • E.g. HI and VA • Direct Pay Permit – Not available for services in some states. See, e.g. Maine Rule 308(4)(1) – Not available for purchase of telecommunications services in CT. ( CT Department of Revenue Services publication, February 10, 2004.) – Make sure that direct pay permit covers the services in question Strafford 32

Question 6: Does The Provider Have Nexus With The State Where The Service Is Sourced? • Quill physical presence test applies – Remote IMAC is not nexus – On-site maintenance is nexus • Dispatch of third parties on behalf of customer by help desk may not be nexus – Provision of data services to other states should not create nexus – Sale of software through downloads on the Internet • (TX Comptroller Decision in Hearing No. 106,626, CCH ¶ 403-996 (9/19/14)) is a controversial decision Strafford 33

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Working Through A Tax Analysis of a Sample Contract for Data Center Service, Managed Network Service, End User Service and Help Desk Service By Michael Carey Strafford 35

What is the Sales and Use Tax Analysis of an IT Services Contract? Sample Provider Invoice to Customer Data Center Services Managed Network Services End-User Services Help Desk Strafford 36

Question 1: What is Data Center Service? • An IT Service Provider runs a data center that maintains and stores the customer’s data, which the customer can access at will. • The provider may refer to its services by a specific function (e.g. hosting or data storage services), or by the nature of servers (e.g. window server or Unix virtual server). • The tax characterization of Data Center Service may include Data Processing, Monitoring, Information Services, Hardware Repair, or IMAC (“Install, Move, Add, Change”) depending on the contract language and the nature of the service. Strafford 37

Question1: What is the service? Data Processing • Data Processing is the service of compiling information and producing records of transactions, maintaining information, and entering and retrieving information. See e.g. D.C. Mun. Regs. Tit. 9, § 474. • Other examples: − Texas imposes a tax on 80% of the charges for a data processing service, which is defined to include “word processing, data entry, data retrieval, data search, information compilation, payroll and business accounting data production … and other computerized data and information storage or manipulation … [and] the use of a computer or computer time for data processing whether the processing is performed by the provider of the computer or computer time or by the purchaser or other beneficiary of the service.” V.T.C.A. Tax Code §§ 151.0035, 151.0038, and 151.0101. − Connecticut imposes a 1% sales tax on “computer and data processing services, “ which include “time, programming, code writing, modification of existing programs, feasibility studies and installation and implementation of software programs and systems.” Conn. Gen. Stat. Ann. §§ 12- 407(a)(37)(A) and 12-408(1)(D)(i). Strafford 38

Question 1: What is the service? Data Processing vs. Monitoring • To determine the nature of the provider's services, it is important to determine the ownership of the hardware and the licensee of the software. − Data Processing – generally, if the provider owns the computer it likely compiles and produces records. • But in some states Data Processing is taxed whether the provider or customer owns the equipment. See e.g. , V.T.C.A., Tax Code § 151.0035. − Monitoring - if the provider monitors the equipment and software only to determine whether there are any problems or disruptions in the service, generally, it should be classified as a monitoring service, and not a data processing service, because any data processing is done by computers not owned by the provider. • Taxable Protective Services : If the service includes monitoring for unauthorized access to, or use of, customer’s IT assets in New York, the charges are taxable as a protective service. N.Y. Tax Law § 1105(c)(8). Strafford 39

Question 1: What is the service? Hardware Repair • Data center equipment may break-down, so Hardware Repair will be deemed part of provider’s service unless the contract clearly states that customer has continuing responsibility for Hardware Repair. − Many states tax hardware repair even though it is a service. See e.g. , Conn. Gen. Stat. Ann. § 12-407(a)(37)(cc); Iowa DOR Pub. NC 78- 5750 (“Iowa Sales Tax on Computers.”) − A state may tax a repair even if it does not typically tax repair labor if the provider supplies the parts needed to make the repair and does not separate the charges for the parts, because the transaction would be considered the bundled sale of a service with TPP. See e.g., Ala. Admin. Code r. 810- 6-1-.84(2); 103 Ky. Admin. Regs. r. 27:150(3). Strafford 40

Question 1: What is the service? IMAC (“Install , Move, Add, Change”) • Provider may perform an IMAC on either hardware or software owned or licensed by client. Some providers refer to it as IMACD, adding “disposal” or “de - install” to the service. − A “Hard IMAC” is one that the Provider performs in -person, whereas a “Soft IMAC” is performed remotely. − States may tax IMACs performed on hardware, software, or both. • Some states tax: − IMAC on either hardware or software. See e.g. D.C. municipal regulations, tit. 9 §§ 463.1, 474.4. • Other states tax: − IMAC performed on hardware but not software. See e.g. , Iowa Code sections 423.1(10). Iowa Admin. Code r. 701-18.34(3)(e). • And, some tax − IMAC performed on software but not hardware . See e.g. , Conn. Department of Revenue Servs., Policy Statement No. 2006(8) (Mar. 23, 2007)(IMAC on owned hardware is not taxable). Strafford 41

Question 1: What is the service? Information Services • Information services is the provision of a right of access to a common database. The definition is broad enough to encompass many IT services (e.g. data processing) but few states’ taxes information services should affect IT providers. − Many information services provisions parallel data processing. See e.g. V.T.C.A., Tax Code 151.351, 34 TX Admin. Code §§ 3.330, 3.342. • New Jersey does not tax data processing, and taxes the furnishing of information collected, compiled or analyzed by the seller, but has an exclusion for the provision of “personal or individual information which is not incorporated into reports furnished to other people.” N.J. Sta. Ann, § 54:32b-2(44). • New York law generally parallels New Jersey, but the exclusion for “personal or individual information” does not apply if the information comes from a common database. NY State Dept of Taxation and Finance TSB-M-10(7)S(7/19 2010). The Department ignores the “primary purpose” test that it sets forth, and could make taxable many personal IT Services. Id. But See , Matter of SunGard Securities Fin. LLC, DTA No. 824336 (N.Y.S. Div. of Tax App., Feb. 6, 2014). Strafford 42

Question1: What is the service? Responsibility for Software Upgrades • If the provider is financially responsible for patches or other software upgrades, the taxability of the transaction will turn on the laws of the state where the software is installed. • If the customer is financially responsible for upgrades, the provider’s service will likely be treated as IMAC for software. Strafford 43

Question 2: Is The Data Center Service a Bundled Service? Let’s compare the Data Center lines on two sample invoices: Sample Invoice A Sample Invoice B Data Center Services Data Center Services Mainframe: Processing Wintel Servers Mainframe: Storage Wintel Virtual Servers IMAC Unix Servers Break/Fix Unix Virtual Servers Managed Network Services Managed Network Services End-User Services End-User Services Help Desk Help Desk Strafford 44

Question 2: Is The Data Center Service a Bundled Service? Sample Invoice A Sample Invoice B Data Center Services Data Center Services Mainframe: Processing Wintel Servers Mainframe: Storage Wintel Virtual Servers Taxable IMAC Unix Servers Taxable Break/Fix Unix Virtual Servers Managed Network Services Managed Network Services End-User Services End-User Services Help Desk Help Desk Strafford 45

Question 3: To Which States is the Service Sourced? • Where are the data centers located? If data centers are located in more than one state, how are the costs allocated between data centers (number of servers, a measure of traffic, etc.)? • From which states do users access the data stored at the data center? How are costs allocated among different states (number of employees, device count, offices, etc.)? • Effect of Bundling – The provider may find the service subject to tax both at a data center site, and in particular states from where users access the data center. Strafford 46

Question 3: To Which States is the Service Sourced? • Does the use of the data processing service or the location of a data center involve a state where most services are taxed? − Hawaii and South Dakota tax most services performed in the state or used in it. See , Haw. Rev. Stat. § 237-13(6); S.D. Codified Laws § 10-45-4. − New Mexico – the gross receipts tax is generally limited to services performed in New Mexico. See, N.M.Stat. Ann. § 7-9-13.1. • Is the use of the data processing service sourced to a state that taxes data processing? See e.g., D.C. Mun. regs. tit. 9, § 474, V.T.C.A. Tax Code §§ 151.0035, 151.0038, and 151.0101. Strafford 47

Question 3: To Which States is the Service Sourced? • Will the Data Processing Service give rise to tax as a charge for terminal access? − Chicago imposes a personal property lease transaction tax at the rate of 8% for the storage of data on servers located in the city, and also taxes database charges if the terminals for access to the data are located in Chicago and some other conditions are satisfied. See , Chicago Municipal Code 3-32. Note that the code presumes that 50% or more of the use will occur in Chicago for contracts signed there. − Florida’s sales tax is imposed as a taxable rental of the computer on charges for access to a provider’s computer, but only if the provider’s computer is located in Florida . See , Fla. Admin. Code Ann. r. 12A-1.032(3). Strafford 48

Question1: What is Help Desk Service and End-User Service • End-User Service (sometimes called Desktop Service) is support that the provider offers for customer’s devices, including desktop computers, printers, peripherals, thin-clients, and hand-held devices. The service may include on-site hardware repair, on-site and remote IMAC, and monitoring. Analysis of Desktop Service follows the same major questions as earlier followed for the Data Center Services analysis. • Help Desk Service (sometimes called Service Desk) is usually provided as a separate service to End-User Service, though the two are related. Provider’s employees answer questions posed by customer’s employees. Questions may be posed via telephone, instant message, or email. Generally the service is sourced based on the location of the customer’s employees. The Help Desk Service likely will be characterized as monitoring and is taxable only in a few states, including Connecticut and New Mexico. The service will be characterized as Soft IMAC if the Statement of Work provides for provider employees to remotely access the customer employee’s computer to diagnose and fix a problem. Strafford 49

Question 1: What is Managed Network Service? • Managed Network Service involves the management of data and voice networks, with the provider ensuring that both network machines and the network itself function well. − A data network may be either a Local Area Network (LAN) or a Wide Area Network (WAN). A voice network may have signals carried over wired lines, mobile signals, transmission through the Internet, or a combination of the three. − A critical question is whether the provider is providing telecommunications. Strafford 50

Question1: What is the service? Telecommunications Service (1) • Most states tax telecommunications, though 25 states do not tax interstate telecommunications. − Some states address the taxability of Private Line Services separately. See e.g., Kan. Stat. Ann. § 79-3603(b)(intrastate and interstate telecommunications services and ancillary services are taxable, but interstate private line services are exempt.) • Most states follow definitions similar to the SSUTA which defines telecommunications as “electronic transmission, conveyance, or routing of voice, data, audio, video or any other information or signals to a point, or between or among points.” • Is the IT provider providing transmission? In most IT contracts we have reviewed, the IT provider provides monitoring to and possibly repair of, equipment and devices used to transmit and route calls, but is not actually providing the transmission of the data or voice communication. Strafford 51

Question1: What is the service? Telecommunications Service (2) • Many states address the taxability of “ancillary services” separately from telecommunications services. − Most states follow the SSUTA definition of ancillary services. SSUTA, Appendix C, Part II, p. 154 (“ services that are associated with or incidental to the provision of telecommunications services, including but not limited to ‘detailed telecommunications billing’, ‘directory assistance’, ‘vertical service,’ and ‘voice mail services .’”) See e.g. , Iowa Admin. Code r. 701-18.20(7), 701-224. − Other states tax specified services. See, e.g., N.H. Code Admin. R. Ann. Rev 1602.04(d) (gross charge subject to tax includes the following: operator assistance, directory information, call-waiting, and call-forwarding.) • Most states source according to the SSUTA rule. SSUTA, Section 314(A). See e.g. , Minn. Stat. § 297A. 669.Subd.1 (“ telecommunication service sold on a call-by-call basis shall be sourced to (1) each level of taxing jurisdiction where the call originates and terminates in that jurisdiction; or (2) each level of taxing jurisdiction where the call either originates or terminates and in which the service address is also located”). Strafford 52

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Cloud Computing By Martin Eisenstein Strafford 54

Cloud Computing: What Is it? • Amalgam of computer services – Provider of services owns or leases equipment and software from third parties and sells to customers access to software and/or equipment. • Normally maintained in a data center – Cloud computing customer contracts to access host equipment and/or software, and/or to obtain related services from the provider, on demand or on a usage/subscription fee basis. – Access is usually over the Internet through any of a number of platforms (mobile devices, laptops, tablets, desktops). Strafford 55

Cloud Computing: What Is It? (Cont.) • Types of service – IaaS: Infrastructure as a service • Access to data storage and computing resources • E.g., Amazon Web services (“elastic compute cloud … elastic block storage”) – SaaS: Software as a service (e.g., Salesforce.com) • Access to software and/or applications • Similar to application services • Software remains on provider’s equipment and is not downloaded or physically delivered on CDs or DVDs. Strafford 56

Cloud Computing: What Is It? (Cont.) • PaaS: Platform as a service − Use by customer of customer’s created or owned applications on provider’s software (languages, libraries, tools) − E.g., Google app. engine − May be a hybrid of SaaS and IaaS, but is treated most often as SaaS as true object • Hosting and managing e-mail • Miscellaneous services such as privacy protection, or hosting Web page or virtual private network within the cloud Strafford 57

DRIVERS OF TAXABILITY DETERMINATION: THE FRAMEWORK • Characterization of the Service – Is it tangible personal property or a taxable service? • True object test governs: MA Letter Ruling 12-8 (11/8/13)(true object was access to equipment to use software and not software itself and, therefore, not taxable.) – Statutory/rule treatment: e.g., prewritten software • Sourcing – Where is the host located? – Where is the service used and what documentation must be provided to provider? » PA Form Rev – 1220 (see attached in Appendix) » Certificate of Multistate Points of Use (see attached in Appendix) Strafford 58

DRIVERS OF TAXABILITY DETERMINATION: THE FRAMEWORK (cont’d.) • Other Taxation Factors: – State statutes regarding whether taxable sale or lease takes place – State statutes exempting or taxing cloud services – Bundled charge or separate charge by service Strafford 59

Taxability Test by Service: IaaS • Characterization: – Data processing or computer service • TX, DC, CT, and OH. – Texas Comptroller of Public Accounts, Letter No. 201207533L (7/31/2012) – Some states may be treated as a lease or rental of computer space if provider’s computer located there • FL; • Storage: Chicago (lease tax) and UT (Utah Op. No. 06-004; 7/27/2006). Strafford 60

Taxability Test by Service: IaaS • Not subject to tax as a lease of property − TN Letter Ruling 1414 (charges for cloud infrastructure services and co-location services not taxable, because possession, title and control of tangible personal property or computer software is never transferred to the user. Charges for use of dedicated computer equipment are subject to tax) • Subject to tax under general services statute: NM, SD, HI. Strafford 61

Taxability Test by Service: IaaS • Sourcing – Where benefit received • TX, WA, OH, CT • Chicago re data processing terminals – Where service provided • FL, Chicago (storage), UT – Where first use occurs • SSUTA: At host or customer’s terminals? Strafford 62

Taxability Test by Service: SaaS/PaaS • Characterization – 14 states do not tax pre-written software delivered electronically, so they don’t tax SaaS. – Increasing number of states have dealt with taxability of SaaS and App Service Provider Services • Generally treated under a true object test as pre-written software delivered electronically but exceptions in certain states for taxation of SaaS when electronic downloaded software is otherwise taxable – CT treats it as a computer service subject to 1% tax. – SC treats it as a communications service Strafford 63

Taxability Test by Service: SaaS/PaaS • Sourcing – To state where used/accessed • Increasing number of states PA, UT, NY, TX, OH, DC, WA, NM, and HI. – PA Letter Ruling No. SUT-12-001: Reverses prior ruling so taxable if used in PA – Presumption used in PA if billed to PA unless submit PA certificate REV-1220 – UT – Letter Ruling No. 10-001 reverses course like PA. Also see Utah PLR 13-003 (12/4/2013), providing that remote access to software by UT residents is taxable. Strafford 64

Taxability Test by Service: SaaS/PaaS – Not taxable in certain states • (e.g. VA and ID, by statute, VA Code Sec. 58.1-609.5(1), IC §63- 3616(b))(treated like electronically downloaded software). • GA: LR SUT-2014-05 (cloud-based services including hosting customer-provided software applications were non-taxable services). Treated like electronic downloaded software, which is not taxable because not deemed tangible personal property. Ga. Comp. R. & Regs. r. 560-12-2-.111(4)(a), (b) • RI and WI : Electronically delivered software is taxable but SaaS and data processing services, delivered by a Software as a Service platform, are not taxable. • TN: Letter Rulings 12-11 and 13-12: Both SaaS and remote storage not subject to tax where servers are located outside of Tennessee. • SC taxes only intrastate communications. Strafford 65

Taxability Test by Service: SaaS/PaaS • Has a sale taken place of SaaS (when treated as tangible personal property)? – Expansive Definition • NY: sale is “any transfer of title or possession or both and any lease or license to use” and a right to use constitutes a license to use. 20 N.Y. Comp. Codes R and Regs. Section 526.7(e)(4)(iii). – Narrow Definition • AZ (Ariz. Reg. 15-5-154.B), and IL 86 IL Admin. Code Sec. 130.1935(a)(1). • NJ (Division of Taxation TB-72)(7/3/2013)(Not taxable because users do not take possession or control over software.) Strafford 66

Taxability Test by Service: Web Hosting • True object test governs? – Is the object tangible personal property? • Treated similarly to IaaS if object is service, unless pure management services. • Treated as SaaS if object is software program. • Is there an exemption under the ITFA? – ITFA (Section 1105 definition of Internet access) • Services packaged with access to the Internet, such as a home page, electronic mail and instant messaging, video clips, and personal electronic storage capacity. • Services described in bullet above that are not packaged with Internet access. • Any other products and services even if they utilize Internet protocol are not exempt Internet access. Strafford 67

Other Issues Regarding Taxability • Billing – Should there be a bundled fee or a fee by type of service? • SSUTA may not permit unbundling as relates to cloud computing • Some state statutes may permit – 34 Texas Admin. Code section 3.330(d)(2) • Ideal is to break up fee into separate charges by service. – Into IaaS, SaaS/PaaS, and other services – Characterization on invoice is important Strafford 68

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Sales and Transaction Taxes on IT Products and Services March 5, 2015 Caleb Allen, Washington State Department of Revenue Caveat: the information contained in this presentation is that of the presenter and not necessarily that of the Washington State Department of Revenue Strafford Washington State Department of Revenue 70

Caveat • Discussion does not necessarily reflect position of the DOR. – My opinion does not always carry the day  • Letter ruling is a good option for complex fact patterns. Strafford 71 Washington State Department of Revenue

A Tax Administrator’s Approach – What is the product or service supplied? – What tax categories might apply? • Some unique Washington categories. – How is the transaction structured? • Determining how bundling may effect the taxability, etc – How is it sourced? – Nexus safe harbor for software, digital goods, etc Washington State Department of Revenue Strafford 72

What is It? Strafford 73 Washington State Department of Revenue

What is the Product or Service • Fact intensive process: – Taxpayers can influence the outcome with detailed and accurate descriptions. – Best to avoid vague terminology from marketing material: • “we provide a broad range of information technology consulting” • “our service optimizes user experience” • “our product is designed to improve communication and connect to customers” Strafford 74 Washington State Department of Revenue

Sources of Information • Letter ruling request descriptions • Contract descriptions • Additional information may add “color” – Website – Invoices – 10K and other available financial information – Press releases – Third party review of products Strafford Washington State Department of Revenue 75

Take-Aways • Clear technical descriptions in communications with Department help. • Website messaging matters. Communicate with marketing guys. • Contract language matters. Communicate with legal department. • Consistency between sources helps build confidence in descriptions. • You get out of the process what you put into it (like the rest of life). Washington State Department of Revenue Strafford 76

What Tax Categories May Apply? Strafford 77 Washington State Department of Revenue

Overview of Categories in WA • Prewritten software (common) – Upgrades, updates, fixes, patches, etc • Remote access to prewritten software (WA) • Custom software or customization services (common) • Digital automated services (WA) • Telecommunications (common) • Professional/technical services (common) – help desk, consulting, engineering, support, etc • Services in respect to tangible personal property (WA) – E.g. installation and repair. Strafford Washington State Department of Revenue 78

Remotely Accessed Software • Definition: the right to access and use prewritten software where possession is maintained by the seller or a third party regardless of how charged. – Hosted by seller or third party. – No need for “delivery;” access is sufficient. – Avoids discussion of “delivery” or “possession” as that may relate to the definition of a “sale.” – RCW 82.04.050(6)(b). Strafford 79 Washington State Department of Revenue

Digital Automated Service • Definition : “…any service transferred electronically that uses one or more software applications” – Examples: online searchable databases, information services, Internet crawler, etc. – Exclusions: hosting, storage, data processing, advertising etc • More than just prewritten software: – Data, information, digital goods? – Functionality: email blasts, multiplayer environment? • RCW 82.04.192(3). Strafford Washington State Department of Revenue 80

How it Fits Together Remote Access Digital Automated Software Service Digital Good Books, Service that use software Software music, video, data, facts, information Cloud Exclusions Computing Strafford 81 Washington State Department of Revenue

Services Rendered with Respect to TPP • Services with respect to TPP (i.e. prewritten software and hardware). – Routine installation of prewritten software • E.g. click through. – uninstalling prewritten software. – Repair or installation of hardware or equipment. • Contrast: separately stated charges for customization of prewritten software generally not subject to sales tax • RCW 82.04.050(2). Strafford Washington State Department of Revenue 82

Take-Aways • Check state law for unique tax categories. Strafford Washington State Department of Revenue 83

How is the Transaction Structured Strafford 84 Washington State Department of Revenue

Time Out • Where are we in the analysis? – We have an idea of what the product or service is – We have an idea of what tax categories may apply – We have a tentative conclusion regarding taxability on a standalone basis • Where are we going? – Examine whether the form of the transaction alters our tax conclusions – What are the forms? Strafford Washington State Department of Revenue 85

Overview of Transaction Structure • How is the transaction structured? – Multiple items for a single price – Multiple items for multiple prices • Form and context influences taxability • Bundling discussion is simplified. – See also RCW 82.08.190 & 195. Strafford 86 Washington State Department of Revenue

Multiple Items for a Single Price • Bundled transaction means two or more products where: – Products are distinct and identifiable; and • Analysis/tests – The products are sold for one non-itemized price • Analysis/tests • A bundle is generally taxable. – Telecom can be unbundled. • Exceptions (NT): – The taxable component is essential AND exclusively provided together with the nontaxable component and the true object of the transaction is the nontaxable component. – The taxable component is 10% or less of the value of the bundled transaction Strafford Washington State Department of Revenue 87

Bundle Example • In-person product training sold with digital training materials (electronically supplied digital good) for a single price. + Strafford Washington State Department of Revenue 88

Bundled Example (Cont) • Two or more products (yes) • Distinct and identifiable (maybe) • Sold for one non itemized price (yes) • Tentative conclusion, taxable? • Exceptions: – Essential to each other AND sold exclusively together (yes) • True object is in person training (yes) – Not taxable. Strafford Washington State Department of Revenue 89

Multiple Items for Multiple Prices • Generally separate tax treatment for itemized prices. • Are the separately itemized products part of a single retail activity? – Definition of “ selling price ” • “…Services necessary to complete the sale…”? • RCW 82.08.010 – “ Functionally Integrated ” (Chicago Bridge 659 P2d 463) and determinations. • If non taxable service is functionally integrated with retail activity it they may be taxable Strafford Washington State Department of Revenue 90

Take-Aways • Consider how the transaction is structured and how it may affect tax conclusions. Strafford 91 Washington State Department of Revenue

Sourcing Strafford Washington State Department of Revenue 92

Sourcing Hierarchy (SSUTA) • General Rule (based on Streamline Agreement) – Business location (received over the counter) – Place of receipt (actual place of receipt-e.g. shipping address) – Address in books and records (contracts, accounting) – Address obtained during sale (credit card billing address) – Origin (shipping warehouse or server) • RCW 82.32.730 Strafford Washington State Department of Revenue 93

Sourcing and Place of Receipt • Place of receipt – "Receive" and "receipt" mean: • taking possession of TPP • making first use of digital automated services or other services, or • taking possession or making first use of digital goods or digital codes, whichever comes first. • RCW 82.32.730 Strafford Washington State Department of Revenue 94

Multiple Points of Use (“MPU”) Exemption • Seller does not collect sales tax, but buyer pays use tax. • Exemption certificate required. • Use limited to: – Digital goods, digital codes, digital automated services, remote access software, and prewritten software. • Only businesses (not personal use). • Product sold must be concurrently available inside and outside WA. • Apportionment based on user location. • RCW 82.08.02088. Strafford Washington State Department of Revenue 95

Nexus Safe Harbor Washington State Department of Revenue Strafford 96

Nexus • Safe harbor: – The department may not consider a person’s ownership of, or rights in, computer software, including computer software used to provide a digital automated service, master copies of software, digital goods, digital codes residing on a server in the state in determining nexus. • Distinguish the ownership of other tangible personal property like servers etc. • RCW 82.32.532. Strafford Washington State Department of Revenue 97

Hypothetical #1 (From Brann & Isaacson) • Cloud service provider with data centers in Texas but with offices in New Jersey • Cloud service provider provides the following services: – Bundled service including storing customer’s data, processing data, use of provider’s SAS accounting software, hosting e-mail – Separate service of hosting Web site and taking orders – Separate service of storage of data for customers • Customer 1, situated in New York City but with offices in Ohio and Illinois, has contracted for the bundled service to which it is billed at its NYC headquarters. Where, if anywhere, is the service taxable? – Would the answer differ if the customer did not use exemption certificates? Strafford 98

Hypothetical #2 (From Brann & Isaacson) • IT Service Provider operates a data center in Chicago, where it offers the following services to Customer 2, which has offices in TX, CA, NY, and OH: – Data storage – Data Processing – Desktop support done remotely – Onsite service of desktops – Management of telecom bills • Price is bundled price for the on-site and remote service but the other services are separately priced • Company gives a certificate of multiple points of use and a TX exemption certificate Strafford 99

Hypothetical #3 (From Brann & Isaacson • IT Provider located in NY provides the following services (Smart Loan and Lending Pit services) to its customers located in OH, WA and NY – Smart Loan Service • Smart Loan is a system that supports and automates securities lending and borrowing, bank loans, short sale authorizations and profit/loss analysis. The main function of the Smart Loan service is to process and maintain ancillary accounting ledgers regarding taxpayer’s customers’ securities lending and borrowing transactions, including monitoring credit limits on a real time basis. • The Smart Loan service commences with taxpayer’s receipt of data from a customer with respect to that customer’s securities lending and borrowing transactions; the customer uses ancillary software provided by taxpayer free of charge to input the data. Transactions can only take place during certain hours of the day when Petitioner’s employees are present. Strafford 10 0