Texas and New York Issue Sales Tax Guidance Addressing Distinction between Taxable Software vs. Nontaxable Service
In order to determine taxability, states must answer the critical question of whether a customer is truly paying for software or a nontaxable service where software is utilized by the vendor.
By Jess Johannesen, SALT manager
Recent guidance issued by Texas (a Court of Appeals case) and New York (an Advisory Opinion) highlights the different approaches states take when analyzing transactions involving software (or a SaaS model).  Specifically, states must answer the difficult question of whether the vendor is providing taxable software or a nontaxable service being facilitated in part by the use of software.
In the Texas case, the taxpayer, CheckFree, provided “electronic bill pay services” to banks for use by the banks’ customers. In doing so, the taxpayer utilized a technology platform that included software and equipment used to facilitate the performance of the bill pay service. The state’s position was that these services constituted taxable “data processing services.” Under Texas law, a “data processing service” includes “the use of a computer or computer time for data processing.”  Regulations expand upon the definition of a “data processing service” to clarify that taxable data processing services include “the processing of information for the purpose of compiling and producing records of transaction, maintaining information, and entering and retrieving information,” but that it does not include “the use of a computer by a provider of other services when the computer is used to facilitate the performance of the service.” 
Texas looked at the essence of the transaction at issue, rather than simply the involvement of computer software in the provision of the services. The taxpayer’s testimony detailed that over 3,000 associates and professionals were employed in order to provide a professional service requiring accredited or certified professionals across several areas. These professionals manage the bill pay process which requires decisions to be made at multiple stages of the process, are responsible for critical monitoring for fraud as well as compliance with government regulations, and deal with errors and other customer service issues arising after bill payment occurs. Ultimately, the Court concluded that CheckFree does not provide taxable data processing services, but instead “provides a professional service – facilitated by the use of computers and an electronic commerce system – that requires the oversight and management of thousands of certified specialists to achieve the goal of paying the bills of the banks’ customers.”
In the New York Advisory Opinion, the taxpayer asked whether its tablet-based health monitoring product was subject to sales tax. The taxpayer’s product involves software installed on a tablet that wirelessly communicated with the taxpayer’s web portal through the Internet and one or more wireless health monitoring devices (e.g., a scale, blood pressure cuff or transmitter for a glucometer). Together, this tablet-based monitoring product helps patients with chronic health conditions live independently by enabling a caregiver to establish a care plan on the taxpayer’s web portal that connects to the tablet. This allows the caregiver to support the patient remotely by monitoring his or her health status. For example, the care plan could alert the patient to check his or her blood sugar and transmit that information to the caregiver. The caregiver is charged a monthly fee to obtain access, which includes usage of the system, technical support and use of the web portal.
While Texas utilized the essence of the transaction test to look through the use of the computer system in the performance of a professional service, the New York Department of Taxation and Finance did not consider the taxpayer’s product to be the rendering of patient care or monitoring services by means of the technology. New York defines tangible personal property to include prewritten computer software, “regardless of the medium by means of which such software is conveyed to the purchaser.”  Based on this definition, the state reasoned that giving the caregivers access to and the right to use the prewritten software (i.e., access to the web portal and to create care plans) constituted a taxable sale because the caregiver received constructive possession of the software.
While these two taxpayers provide different services in different industries, both taxpayers utilize computer systems and technology to provide a service. The critical question is whether the customer is really paying for software through a SaaS model or if the purchaser is paying for a nontaxable service where the software is utilized by the vendor as part of the means to provide that service. These are fact-sensitive questions, and the analysis is going to differ from state to state. Aprio’s SALT team has experience addressing these complicated issues, and we can assist you so that your company is in compliance with its sales and use tax obligations.
This article was featured in the May 2016 SALT Newsletter. To view the newsletter, click here.
 Hegar v. CheckFree Serv. Corp., No. 14-15-00027-CV (Tex. App. 14th Dist., 04/19/2016) and New York Advisory Opinion No. TSB-A-16(8)S, 03/15/2016.
 Tex. Tax Code Ann. §151.0035. This is typically the provision that Texas uses to tax SaaS transactions.
 Tex. Admin. Code §3.330(a)(1).
 NY Tax Law §1101(b)(6).