It’s not very often that state taxing officials present taxpayers with bona fide refund opportunities. A recent sales tax development in the “cloud computing” area may provide multi-state taxpayers with just such an opportunity. Don’t let it pass you by.
As noted in an article I previously wrote for this publication, the global market for cloud computing is expected to reach approximately $240 billion by 2020. As the market for such services continues to expand, states are continuing to struggle with whether or not cloud computing should be subject to their respective sales taxes . A further issue they have had to consider is at what location does a cloud computing transaction take place?
In a simpler time, it was easier to answer the question of whether a particular sale should be subject to tax. In general, the tax was triggered when there was a retail sale of a non-exempt item of tangible personal property. Such transactions were easy to track. They occurred at the geographical location of a transfer of possession or control of the property. As the economy shifted to be more “service” oriented, certain of the states’ sales tax laws developed to include selected service transactions within their tax bases. Moreover, with the advent of digital products the states’ sales tax laws have evolved to address the issues presented by them.
The growth of cloud computing, however, has presented states with issues many of them have not addressed previously. Formats of cloud computing vary in nature, but the basic concept allows a consumer for a fee to access and use software that is located on a provider’s server. Without actually purchasing the software, the consumer gains the same performance capabilities, absent the expense of an actual program purchase. Thus, there is no “actual” transfer of the software to the consumer, the trigger that generally gives rise to a taxable transaction.
The States’ Response
Since the standard parameters of taxability do not apply to cloud computing, states have had to adopt new paradigms to confront the issues presented. Such paradigms often appear to apply a “shoe horn” approach in an attempt to justify taxing cloud computing transactions under the respective states’ laws and regulations. Examples of several states’ positions are set forth below.
In a number of Advisory Opinions, the latest being TSB-A-13(37)S (October 17, 2013), the New York State Department of Taxation and Finance has taken the position that cloud computing services are subject to sales tax because the consumer obtains “constructive possession” of the software, as well as the “right to use, or control, or direct the use of tangible personal property.” New York considers the transfer to take place where the cloud is accessed by the consumer. In other words, a cloud computing transaction is considered to occur in New York to the extent that the operator of a computer located in the state accesses the cloud from that in-state location. In the Department’s view, it does not matter where the actual server hosting the software is located. The location of the user is paramount.
In a ruling issued in 2012, the Pennsylvania Department of Revenue announced its policy with respect to the taxation of cloud computing transactions (SUT – 12-001 (May 31, 2012)). In the Department’s view, a vendor selling a license to use software that is accessed through the internet (rather than downloaded on to the customer’s computer) is required to collect sales tax on the transaction if the customer is located in Pennsylvania.
The Massachusetts Department of Revenue has concluded that cloud computing services amount to a “virtual download” of prewritten software. As a result, the Department’s position is that cloud computing services are taxable to the extent the customers accessing the cloud are located in Massachusetts (Letter Ruling 12-8 (July 16, 2012)).
In a recently issued Technical Bulletin, TB – 72 (July 3, 2013), the New Jersey Division of Taxation concluded that sales of cloud computing services are not subject to sales tax in the state . It is the Division’s position that such transactions do not constitute sales of tangible personal property, nor are they among the enumerated taxable services under the law. It should be noted, however, that New Jersey does tax information services. Accordingly, if the software being accessed via the cloud is viewed by the Division as an information service, the transaction will be subject to tax in the state if the users are located in New Jersey. Examples of such services include Westlaw, LexisNexis, CCH and RIA.
Potential Tax Savings Opportunity
Because the above states look to where the cloud is being accessed in determining whether a transaction has occurred within their borders, cloud computing business consumers with offices in New Jersey, as well as one of the other subject states, should consider where their employees are accessing the cloud to use the vendor’s software. For example, an accounting firm with its main office in New York and satellite offices in New Jersey that pays a vendor annual fees of $200,000 should look to where the software is being accessed. If forty percent of the partners and employees using the software are located in New Jersey, then only $120,000 of the annual fees should be subject to New York sales tax. The vendor, in an effort to simplify matters, may just charge New York sales tax on the entire $200,000 annual fee since presumably it has no knowledge of the location of the firm’s partners and employees.
Taxpayers should avail themselves of all tax saving opportunities applicable to them. Ignoring them is simply folly, since there is little question that states will not seek them out to give them the cash back. In today’s marketplace, business consumers need all the help they can get.
If you have any questions regarding the content of this article, please contact Tom Corrie at (212) 842-7019 or via e-mail at firstname.lastname@example.org.