New York Rules that Lump Sum Payment for Software is Taxable to the Extent of In-State Use

After clarifying that all charges included in a lump sum for software were taxable, New York determined that the charges should be sourced based on where the software licenses were used.

By Tina Chunn, SALT senior manager

Recently, New York issued an advisory opinion that provides guidance regarding the taxability and sourcing of sales tax on subscription fees charged for training software licensed to customers with users that access and use the software both inside and outside New York. [1]

The petitioner licenses software that delivers interactive training programs to retailers with users that are located both inside and outside of New York. This software helps retailers train their employees to become more knowledgeable about their goods and culture to drive better performance. The software consists of a basic code that is customized to reflect a retailer’s logo, name or other individual attributes, as well as modified to work with the retailer’s operating system. Additionally, videos filmed by the petitioner can be added at the retailer’s request.

The software is accessed through the petitioner’s software application, and the training content is downloaded to the retailer’s corporate devices, including desktop computers, laptops, tablets or cash registers. The software includes training content incorporating interactive quizzes, exercises, assessments and videos triggered by the software to play automatically when the employee gets to particular sections. It is not available for personal devices, and the petitioner maintains ownership of the videos embedded in the software. The retailer’s managers also use the software to review their employees’ quiz scores and determine if the required training has been completed. This data is stored online and accessed through the software program.

The charges for the prewritten program and any customization or programming of the software may be billed as one charge or separately stated. Further, the petitioner charges a subscription fee either monthly, quarterly or annually, and the fee is based on the number of users who have access to the software.

For sales tax purposes, New York treats the sale of prewritten software as the sale of tangible personal property, regardless of the means of delivery. Enhancements or modifications for a specific purchaser do not change it from being treated as prewritten software for sales tax purposes. However, if these charges for custom enhancements or modifications are reasonable and separately stated, these charges are not subject to sales tax. [2]

Therefore, the Opinion concludes that the charge for the prewritten program and any customization or programming of the software is taxable if charged as a lump sum. Any reasonable customization or modifications charges that are separately stated from the charge for prewritten software are not subject to tax. Additionally, the subscription fees charged for the use and/or access to the software are also considered the transfer of prewritten software and are subject to sales tax.

The petitioner may also charge for creating the videos used in the software, either as a separate charge or included with the lump sum billing for the software. New York does not treat the sale of videos delivered electronically or online as tangible personal property. [3] Thus, the Opinion states the charges will be exempt from sales tax if billed separately. However, if the charges are bundled with the sale of the prewritten software, the entire charge is subject to tax.

After addressing taxability, the Opinion then examined the issue of the transaction location for purposes of determining the proper sales tax due and determined that the charges for the software should be sourced based on the location where the license is being used. [4] Thus, New York clarifies that if a retailer’s employees and managers use the software at locations both inside and outside New York, the petitioner should determine the total number of retailer employees and management using the software and collect tax for only that portion of the users that are in New York. This determination can be made based on written information provided by the retailer and should be maintained for at least three years from the last date of sale. [5]

The issue of sourcing has become very complex when services or software licenses are simultaneously used by consumers in multiple locations. Many states do not have specific sourcing guidance addressing these transactions, and those that do may have different guidelines regarding the methodology and supporting documentation required.

The SALT team at Aprio is experienced with evaluating the sales tax implications of these transactions in connection with taxability, sourcing and supporting documentation. We will ensure that you are in compliance and do not generate any potential sales tax exposure. We constantly monitor these and other important state tax issues in order to assist you with your specific tax situation, and we will include any significant developments in future issues of the Aprio SALT Newsletter.

Contact Tina Chunn at tina.chunn@aprio.com or Jeff Glickman, partner-in-charge of Aprio’s SALT practice, at jeff.glickman@aprio.com for more information.

This article was featured in the October 2017 SALT Newsletter. 

[1] New York Advisory Opinion No. TSB-A-17(15)S, 08/01/2017.

[2] Tax Law §1101(b); TSB-A-08(62)S; TSB-A-15(25)S; TSB-M-93(3)S.

[3] TSB-A-08(41)S; TSB-A-12(10)S.

[4] TSB-A-08(62)S; TSB-A-15(51)S; TSB-A-03(5)S.

Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or under any state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Please do not hesitate to contact us if you have any questions regarding the matter.