A number of sales tax decisions in Tennessee, Indiana and Illinois serve to remind us all of the uncertainty involving cloud computing transactions, and the importance to seek guidance from tax practitioners regarding your specific facts. While each taxpayers’ facts involved the access to and/or provision of cloud-based services, the transactions for each were unique, as were the States and their analysis / conclusions. One state decided that the taxpayer’s cloud-computing transactions were taxable, whereas the other states determined that the cloud-based transactions were not taxable sales. These rulings, while pertinent to the taxpayers at issue, only add to the uncertainty for taxpayers engaged in similar transactions, and enhance the unpredictability of tax treatment relating to cloud-based transactions, even in the same state.
Sales Tax on Cloud-computing: Rulings Also Mean More Uncertainty and Unpredictability
Specifically, in Tennessee, the Department ruled that a Taxpayer’s charges for access to a cloud-based interface, that allows a customer to communicate through text messaging, are subject to the Tennessee sales and use tax as the sale of ancillary services, which are taxable under Tennessee Code Ann. §67-6-205(c)(9). [Letter Ruling No. 16-09, Tennessee Department of Revenue, (Nov. 10, 2016)] The taxpayer’s proprietary software allows for authentication and exchange of messaging by the customer and authorized users, all through an encrypted Web-based interface. The Department considered the state’s definition of taxable “telecommunications services” under Tennessee Code Ann. §67-6-102(90)(A). The Department also considered that ancillary services are subject to sales tax. In Tennessee, ancillary services are defined as “services that are associated with, or incidental to, the provision of telecommunication services, including, but no limited to, detailed telecommunications billing service, directory assistance service, vertical service, and voice mail service.” [TN Code Ann. §67-6-205(c)(9)] The Department did not conclude that the taxpayer’s service constitutes a “telecommunications service”, however the Department relied on the broad scope of the definition of “ancillary services” to conclude that:
Although the Taxpayer's Interface allows a [REDACTED] to send and receive text messages, a telecommunications service, the overarching purpose behind the services provided by the Taxpayer's Interface is the facilitation of communication between [REDACTED] and their [REDACTED] through various mediums and is “associated with, or incidental to, the provision of telecommunication services.” Accordingly, the Taxpayer's Interface is subject to the Tennessee sales and use tax as an ancillary service.
[Letter Ruling No. 16-09, Tennessee Department of Revenue, (Nov. 10, 2016)]
In light of these decisions, taxpayers and their advisors are reminded that the world of web-based services remains “the Wild West”.
In Illinois, the Department ruled that the taxpayer’s provision of web collaboration services are not subject to sales tax, as they constitute nontaxable services in Illinois. [General Information Letter ST 16-0034-GIL, Illinois Department of Revenue, (Aug. 17, 2016)] In its letter ruling request, taxpayer describes its myriad services as those that provide, for a subscription, access to online interactive experiences. The taxpayer describes a number of product offerings, through which the user may conduct an online meeting in which they share audio, video and content. In other online experiences, the user may conduct online meetings, training, and events. In still others, the user may provide technical support, remotely monitor computers, remotely manage computers, access and share records, and collaborate with other users involving various aspects of these products. Taxpayer noted that customers use their own hardware, software and Interconnect connectivity to utilize the services. The Department concluded that taxpayer is providing a service that is nontaxable, noting that “[c]urrently, computer software provided through a cloud-based delivery system – a system in which computer software is never downloaded onto a client's computer and is only accessed remotely – is not subject to tax.” [General Information Letter ST 16-0034-GIL, Illinois Department of Revenue, (Aug. 17, 2016)]
Lastly, Indiana issued a decision in which they determined that a taxpayer’s provision of web services that support Internet infrastructure are not subject to sales tax. [Revenue Ruling #2012-05ST, Indiana Department of Revenue, October 4, 2016] For a fee, taxpayer provides customers the ability to access computing resources (memory, CPU and storage) for data and content that the customer uploads. The Department noted that while the taxpayer provides access to open source and third-party software, there is no charge for the software that the customer uses. Taxpayer only charges a fee for the computing resources that the customer uses, on an hourly basis, or for an up-front fee with a reduced hourly rate. Taxpayer also charges a data transfer fee for uploading, moving or downloading data from taxpayer’s servers to customers site. With regard to the taxability of remotely accessed software, the Department in Sales Tax Information Bulletin #8 (November 2011) provides the following guidance:
Prewritten computer software maintained on computer servers outside of Indiana also is subject to tax when accessed electronically via the Internet (i.e., “cloud computing”). The accessing of prewritten computer software by Indiana residents constitutes a transfer of the software because the customers gain constructive possession and the right to use, control, or direct the use of the software.
Despite this guidance, the Department concluded that taxpayer’s software “is never transferred to their customers, and customers never possess, control, or hold title in the software. The software is instead downloaded and used by Company to perform functions for creating a virtual server that allows customers to test their own services and applications.” Based on this, the Department concluded that taxpayer’s charges for cloud-computing that involve the use of “instances” of open source or third-party software is not subject to sales tax. Furthermore, the Department concluded that taxpayer’s charges for remote storage of digital data, applications, and information constitute a nontaxable service under Indiana Administrative Code Section 2.2-4-2. [Revenue Ruling #2012-05ST, Indiana Department of Revenue, October 4, 2016]
As more providers and consumers move to the cloud, and new services emerge, States are provided the opportunity to impose sales tax on these novel digital goods and services, without having to use the legislative or administrative rule-making processes.
In light of these decisions, taxpayers and their advisors are reminded that the world of web-based services remains “the Wild West”. While the facts for each taxpayer are disparate, these rulings – once again – demonstrate that one State may consider cloud-based services to be a nontaxable service, whereas another may broadly broadly interpret their definition of taxable services (e.g., “ancillary services”, information services, data processing services or communications services) or software to encompass the new revenue stream for the State. As more providers and consumers move the purchase of historically taxable products (i.e., software and hardware) to the cloud, and new services emerge, States are provided the opportunity to impose sales tax on these novel digital goods and services, without having to use the legislative or administrative rule-making processes. The morale of the story – taxpayer beware!