Proper sales tax compliance can be daunting for any business, but the complexities increase when dealing with the software and technology industries in particular. By now, everyone is familiar with the “cloud,” and most companies and individuals utilize “software as a service” (SaaS) in some capacity, likely daily, whether for business, personal use, or both. Taxation of cloud computing, however, remains very much a source of confusion and angst for vendors, consumers, CPAs, auditors, and tax preparers.
As a preliminary matter, it is helpful to review five foundational sales tax concepts. First, sales of tangible personal property (generally speaking) are broadly taxable. Second, sales of services (generally speaking) are narrowly taxable, meaning services must be specifically enumerated by statute before they are subject to tax. Third, most states (generally speaking) define tangible personal property to include non-custom software, which would otherwise be considered an intangible. Fourth, for a transaction to constitute a sale, a transfer of title or possession for consideration is required. Fifth, some states in effect treat the sale of SaaS as the taxable transfer of possession of software, a tangible product, rather than as the sale of a nontaxable service.
Technology is advancing faster and faster, and the law is generally slow to adapt. Often there is not an obvious answer regarding the proper classification and taxability of information technology and e-commerce transactions. Is the software custom (exempt) or canned (taxable)? Does the state have authority subjecting SaaS to tax? New York takes the position that SaaS is taxable [see, e.g., TB-ST-128, Computer Software (08/05/2014)], while New Jersey does not tax SaaS transactions [see, e.g., TB-72, Cloud Computing (07/03/2013)]. If not the sale of software, remote or otherwise, is the service at issue a taxable service? Can it be treated as a taxable information service, or as some nontaxable consulting service? Needless to say, CPAs will be expected to answer these questions for their clients.
Does the transaction actually involve software or something along the lines of platform-as-a-service (PaaS) or infrastructure-as-a-service (IaaS)? What is being transferred? Who is using the underlying software applications? Are the business inputs being resold or used? Is tax being paid on the purchase of those inputs? Can a resale certificate be issued? Each state has its own rules affecting the answers to these types of questions.
Audits involving the software and technology industries contain complex issues. A thorough understanding of the applicable law and underlying facts is critical to determine whether tax is, or might be, due. Both CPAs and business owners need to be informed of developments in the law, and auditors always need to be educated about the specific facts of the business under audit. Compliance in a multistate environment can be difficult, but audits can be wors
