TEI Presentation. March 27, 2013

Transcription

1 TEI Presentation March 27, 2013

2 Sourcing of Sales other than Tangible Personal Property TEI Presentation March 2013 Page 2

3 Sales Apportionment Sourcing Trends: Market verses Cost of Performance The New Approach A major trend in state corporate income taxes is the adoption of market- based rules for sourcing sales of services in lieu of the traditional i Uniform Division of Income for Tax Purposes Act (UDITPA) cost-of-performance rule. Under UDITPA, for purposes of computing the sales factor, sales of services are assigned to the state in which the income-producing activity is performed. If the corporation performs the income-producing activity in two or more states, the sale is assigned to the state in which the corporation performs a greater proportion of the income-producing activity than in any other state, based on the costs of performance. Under a market-based approach, sales of services are assigned to the state in which the services or benefits of the services are received or delivered, or where the customer or marketplace is located. The specific rules for market-based sourcing can vary widely from state to state and, within a particular state, may vary by industry. 3

4 Market-Based Sourcing States (as of Oct. 18, 2012) Alabama Arizona (elective; eff. 2014) California (elective for 2011 & 2012; mandatory 1/1/2013) Georgia Alabama Code (IV)(17); eff Az Rev. Stat (B); eff year binding election phased in as follows: %; %; %; %. Cal. Rev. & Tax. Code 25136; For taxpayers electing single-sales factor apportionment eff & 2012; mandatory for all taxpayers eff. 1/1/2013. Ga. Code Ann (d)(2)(A)(i). Illinois 35 ILCS 5/304(a)(3)(C-5)(iv); eff Iowa Iowa Admin. Code Reg (1). Maine Maryland Michigan Me. Rev. Stat. Ann. tit. 36, 5211(16-A)(A); eff Md. Reg (C)(3)(c) applies to services only (other income is sourced based on ave. in-state prop/payroll factors). Mich. Comp. Laws (1)(e) & (2); eff (eff for MBT). Minnesota Minn. Stat (5)(h)-(j), eff Nebraska (eff. 2014) Neb. Rev. Stat (3); eff Ohio Oklahoma Utah Washington Wisconsin Ohio Rev. Code Ann (B)(2)(c)(ii), eff Okla. Admin. Code 710: (1)(A)(ii) applies to services ( other income not included in factor); eff Utah Code Ann (3) & (4), eff Wash. Rev. Code Section and Wash. Admin. Code Section (5)(a)(i), eff. June 1, Wis. Stat (9), eff for intangible receipts; eff for service receipts.

5 Market Based Sales Sourcing Proposals The New Approach Kentucky Massachusetts Minnesota Oregon 5

6 Sales Factor Sourcing Methods (as of Oct. 18, 2012) Market-Based Sourcing COP Proportionate [pro rata % of activity in state] COP Plurality [If the greater percentage of costs of performance occurs in that state (does not have to have a majority of costs, just more costs than any other single state) 100% of revenue is reported in the sales factor of that state.] WA MT ND ME OR CA Market if elect if Single Sales Factor eff & 2012; mandatory 2013 NV ID UT WY CO SD NE (Plurality; Market eff. 2014) KS MN IA MO WI IL MI IN KY OH WV NY PA MD DC VA VT NH MA CT RI NJ DE AK AZ (Plurality; Market 5 yr binding election eff. 2014) NM OK AR MS TN AL GA NC SC TX LA FL HI 6

7 Cost of Performance Sourcing - Still Alive and Kickin' UDITPA 17 states the following with respect to sales other than of tangible personal property: p Sales, other than sales of tangible personal property, are in this state if: (a) the income-producing activity is performed in this state; or (b) the income-producing activity is performed both in and outside this state and a greater proportion of the income-producing activity is performed in this state than in any other state, based on costs of performance. Unlike sales of tangible property, which are generally sourced based on the destination of the property, under the cost of performance method, sales of non-tangible items are sourced to the state in which the greatest proportion of costs are incurred, where the majority (>50%) of costs are incurred, or on a pro- rata basis. Often results in an "all or nothing" sales factor allocation All-or-nothing plurality approach All receipts sourced to state where majority of costs incurred 7

8 Cost of Performance Sourcing - Still Alive and Kickin' EXAMPLE 30% of costs in State A 30% in State B 40% in State C All receipts go to State C under UDITPA Sect. 17/plurality approach Receipts sourced nowhere under majority approach Receipts sourced proportionately under proportionate approach 8

9 Q&A to show double sourcing if in both COP & market sourcing states under certain circumstances FACTS: Seller s commercial domicile: Virginia Files tax returns in Virginia, Georgia and Pennsylvania Customer location: Georgia Percentage of costs incurred in performing the service: 40% Virginia 30% Georgia 30% Pennsylvania QUESTION: What percentage of revenue is reported in the sales factor numerator? [Assume all service benefits are received at the customer s location] (1) Virginia (all-or-nothing approach) (2) Pennsylvania (all-or nothing approach) (3) Georgia (where benefit of the service is received) ANSWER: 1) VIRGINIA: 100% The greater proportion of the income-producing activity is performed in Virginia than in any one other state, based on cost of performance. 2) PENNSYLVANIA: 0% The greater proportion of the income-producing activity is performed in Virginia, NOT Pennsylvania, than in any one other state, based on cost of performance. 3) GEORGIA: 100% The benefit of the service occurs in Georgia. 9 Therefore 200% of sales of services are apportioned, not 100%.

10 Q&A to show nowhere sales sourcing could work if in both COP & market sourcing states under certain circumstances FACTS: Seller s commercial domicile: Georgia Files tax returns in Virginia, Georgia and Pennsylvania Customer location: Virginia Percentage of costs incurred in performing the service: 30% Virginia 40% Georgia 30% Pennsylvania QUESTION: What percentage of revenue is reported in the sales factor numerator? [Assume all service benefits are received at the customer s location] (1) Virginia (all-or-nothing approach) (2) Pennsylvania (all-or nothing approach) (3) Georgia (where benefit of the service is received) ANSWER: (1) VIRGINIA: 0% The greater proportion of the income-producing activity is performed in Georgia, not Virginia, because 40% of the costs are incurred in Georgia and only 30% are incurred in Virginia. (2) PENNSYLVANIA: 0% The greater proportion of the income-producing activity is performed in Georgia, NOT Pennsylvania, because 40% of the costs are incurred in Georgia and only 30% are incurred in Pennsylvania. (3) GEORGIA: 0%- The benefit of the service occurs in Virginia, NOT Georgia. 10 Therefore NO sales of services are apportioned, not 100%. Also known as nowhere sales.

11 Cost of Performance Sourcing - Still Alive and Kickin' What is income producing activity? States have not taken a uniform approach. What costs are included when determining where costs incurred? States may aggressively interpret their existing cost of performance statutes, particularly when they find themselves on the nothing side. Bellsouth Advertising & Publishing Corp. v. Chumley, 308 S.W.3d 350 (Tenn. Ct. App. 2009). 11 o o o BellSouth sourced zero receipts to Tennessee under state s all or nothing, majority cost of performance approach to sourcing service receipts. DOR invoked alternative apportionment rules and sought to use market sourcing. State court agreed, even though there was nothing extraordinary about the taxpayer s fact pattern that would require extraordinary relief.

12 Cost of Performance Sourcing - Still Alive and Kickin' AT&T Cases (Massachusetts v. Oregon 2011) Two state cases involving same taxpayer and same fact pattern: Taxpayer provided interstate and international calling services. At issue was how closely can you slice direct costs and income producing activity. Massachusetts Board of Tax Appeals adopted a broader operational approach. Oregon Tax Court adopted a stricter transactional approach (on a call-by-call basis). Massachusetts Court ruled that third-party costs (access fees paid to LEOC) not included. Oregon court reached opposite result. 12

13 Lingering Michigan SBT (COP) Sales Sourcing Issues Goods vs. Services HOV Services v Treasury, MTT Docket No , (3/19/12), Ct. of Appeals Docket No (pending before COA) Midwest Bus Corp v Dep t of Transportation, 288 Mich App 334 (2010) Michigan Production Machining, Inc v Dep t of Treasury, MTT Dk No , August 18, 2012 PFG Enterprises v Dep t of Treasury, COA Dk No (December 27, 2012) Sourcing of Services Cost of Performance Lason Systems, Inc v Dep t of Treasury, COA Dk No (January 26, 2012) 13

14 Market Based Sourcing The New Approach Typically based on one of following: Location of customer Where benefit of service is derived Where intangible personal property is utilized Elements: Where is customer situated (billing address, commercial domicile or other)? Where is benefit derived (what if multiple states)? Ability to look through to customer s customers (e.g., sale of fulfillment services to national telecom company) Availability of look-through h information may be limitedit 14

15 Market Based Sourcing The New Approach Problem areas: Difficulty defining terms Where is a customer located (its billing address, its headquarters, or place where service is received)? Where is benefit received? Typically, the person with superior information is the buyer of the service, not the seller; and buyer may not wish to share such information Look-through oug sourcing makes sense, se, but such information o is not always available May result in economic nexus, especially in light of states adopting factor presence nexus standards Primarily benefits in-state companies and shifts tax burden to out-of-state companies (flip side of this is that market sourcing is an economic development tool, especially with no throwback) Risk of double-taxation due to non-uniform administration 15

16 Market Based Sourcing The New Approach Planning Opportunities: Situate service centers in market-sourcing state Minimizes costs in states applying cost-of-performance rule No effect in market-sourcing state Closely evaluate differences among states market-sourcing rules Proportionate or all-or-nothing approach? Does state use tiered/cascading sourcing rules, e.g. billing address as proxy for location of customer? Does the state provide a safe-harbor rule for sourcing of receipts from services? 16

17 Market Based Sourcing The New Approach Alabama Effective 2011 Sales other than tangible personal property are sourced to Alabama if the taxpayer s market for the sale is Alabama Services: Delivered to Alabama location Intangible license: Property used in Alabama If a sale is assigned based on the above to a state where the taxpayer is not subject to tax, then the sale is excluded from the sales factor 17

18 Market Based Sourcing The New Approach Arizona 5-year binding election available for multistate service providers A multi-state service provider is one that derives more than 85% of its sales from services provided to purchasers who receive the benefit of the service outside AZ, and includes all taxpayers required to file a combined report and all members of an affiliated group included in a consolidated return Phased in % market sales; 15% income-producing activity sales % market sales; 10% income-producing activity sales % market sales; 5% income-producing activity sales % market sales 18

19 Market Based Sourcing The New Approach Historic law California 3-factor apportionment formula with double-weighted sales factor Cost-of-performance (preponderance) sourcing for sales of other than tangible personal property Joyce approach to calculating l the combined sales factor numerator 19

20 Market Based Sourcing The New Approach Single Sales Factor California For tax years beginning on or after Jan. 1, 2011 and before Dec. 31, 2012, California i taxpayers that t elect to use a single-factor sales apportionment formula must use a market-based rule to source sales of services. Taxpayers that t do not make the election must continue to use the UDITPA cost-of-performance rule to source sales of services. Under the market-based sourcing rule, sales of services are assigned to California to the extent the purchaser of the service received the benefit of the service in this state. Election not binding can pick a different election each year Election must be made on an original, timely filed return For tax years beginning on or after Jan. 1, 2013, California taxpayers are required to use single-factor sales apportionment and marketbased sourcing 20

21 Market Based Sourcing The New Approach California In March 2012, the California Franchise Tax Board published regulations that provide guidance for applying the new market-based rule. The regulations apply retroactively to tax years beginning on or after Jan. 1, The guidance varies, depending on whether the customer is an individual or a business entity. 21

22 Market Based Sourcing The New Approach If the customer is an individual: California If the customer is an individual, it is presumed that the benefit of the service is received at the customer s billing address, and the Franchise Tax Board will accept this method of assigning the sales to California. The taxpayer may overcome this presumption by showing, by a preponderance of the evidence, that its contract with the customer or its other books and records provide the location where the benefit of the service is received. If the taxpayer overcomes the presumption, but the taxpayer cannot derive an alternative method by reference to the contract or its books and records, then the location where the benefit of the service is received is reasonably approximated. The term reasonably approximated means that, considering all sources of information other than the contract and the taxpayer s books and records, the location of the market for the benefit of the service is determined in a manner that is consistent with the activities of the customer. Information, including publicly available information, such as population, that is specific in nature is preferred over information that is general in nature. If population is a reasonable approximation, the population used is based on the most recent U.S. census data. 22

23 Market Based Sourcing The New Approach California If the customer is a business entity: If the customer is a corporation or other business entity, it is presumed that the benefit of the service is received at the location (or locations) indicated by the taxpayer s contract with the customer or the taxpayer s other books and records, notwithstanding the customer s billing address. The taxpayer or the Franchise Tax Board may overcome this presumption by showing, by a preponderance of the evidence, that the location indicated by the contract or other books and records is not the actual location where the service s benefit is received. If neither the contract nor the other books and records indicate where the benefit of the service is received, or if the presumption is overcome, then the location should be reasonably approximated. If the location cannot be reasonably approximated, then it is presumed that the service s benefit is received at the location from which the customer placed the order for the service. If the location from which the customer ordered the service cannot be determined, then the benefit of the service is received at the customer s s billing address. 23

24 Market Based Sourcing The New Approach Georgia Gross receipts are assigned to Georgia if the receipts are derived from customers within this state or if the receipts are otherwise attributable to this state s s marketplace. The term customers within this state means a customer that is engaged in a trade or business and maintains a regular place of business within Georgia, or a customer that is not engaged in a trade or business whose billing address is in Georgia. A regular place of business means an office, factory, warehouse, or other business location at which the customer regularly conducts business. A billing address means the location indicated in the books and records of the taxpayer as the address of record where any statement or bill relating to a customer s account is mailed. If a customer receives only a portion of the benefit of the service in Georgia, the gross receipts are assigned to Georgia in proportion to the extent the customer benefits from the service in Georgia. 24

25 Market Based Sourcing The New Approach Illinois Adopted market-sourcing effective 2009: 35 ILCS 5/304, 304(a)(3)(C-5)(iv) Services sourced to state where services received, using tiered souring rules Sales thrown out if taxpayer not taxable in state where services received 25

26 Market Based Sourcing The New Approach Iowa Gross receipts are included in the numerator of the Iowa sales factor in the proportion which the recipient of the service receives benefit of the service in this state. t Thus, if the customer receives all of the benefit of the service in Iowa for a specific contract or an item of income, all of the gross receipts are assigned to Iowa. On the other hand, if the customer receives only a portion of the benefit of the service in Iowa, the gross receipts are assigned to Iowa in proportion to the extent the customer receives the benefit of the service in Iowa. If the taxpayer does not believe that this method of apportionment reasonably attributes income to business activities within Iowa, it may request the use of an alternative method of apportionment. 26

27 Market Based Sourcing The New Approach Oklahoma Adopted market-sourcing by regulation effective July 11, 2010 Okla. Admin. Code 710: Services sourced to Oklahoma if: o Receipts are derived from customers within Oklahoma, or o Customers are within the state if customer maintains a regular place of business in Oklahoma, or billing address is in the State o Receipts are otherwise attributable to the Oklahoma marketplace 27

28 Market Based Sourcing The New Approach Maine Adopted market-sourcing effective 2007 Me. Rev. Stat. Ann. tit. 36, 5211(16-A)(A); ) Code Me. R. 801 Services sourced to state where services received, using tiered sourcing rules Sales to federal government sourced under COP rules 28

29 Market Based Sourcing The New Approach Maryland Gross receipts from contracting or service-related activities are included in the numerator of the Maryland sales factor if the receipts are derived from customers within this State. An individual or business enterprise is a customer within this State if the individual or business enterprise is domiciled in Maryland. In the case of a business enterprise, the domicile is the state in which the office or place of business that provides the principal impetus for the sale is located. If an office or place of business cannot be identified as providing the principal impetus for the sale, then the business enterprise is domiciled in the state in which the headquarters or principal place of management of the business enterprise is located. Under a special rule, if the service relates to the construction or improvement of real property, then the determination i of whether h the customer is within Maryland is based on the property s situs. 29

30 Market Based Sourcing The New Approach Michigan Receipts from the performance of services are included in the numerator of the Michigan sales factor if the recipient of the services receives the benefit of the services in this state. If the recipient of the services receives only a portion of the benefit in Michigan, the sale is assigned to Michigan in proportion to the extent that the recipient receives the benefit of the services in Michigan. If it cannot be determined where the benefit to the customer is received, the sale is sourced based on the customer s billing address. The method the taxpayer uses to determine the extent of the benefit received in Michigan must be reasonable in light of all the facts and circumstances and must be uniformly and consistently applied. Furthermore, a taxpayer may not simply use the customer s location to source a sale of services without first making a reasonable effort, based on its books and records, to determine where the benefit of the service is received. RAB sheds some light on how market sourcing is interpreted under the MBT. 30

31 Market Based Sourcing The New Approach Minnesota Receipts from the performance of services are assigned to Minnesota if the services are received in Minnesota. If the customer is a corporation, partnership, or trust, the sale may be assigned only to a state where the customer has a fixed place of doing business. If the state where the services are received is not readily determinable or is a state where the corporation, partnership, or trust receiving the service does not have a fixed place of doing business, the services are deemed d to be received at the office of the customer from which h the services were ordered in the regular course of the customer s trade or business. If the ordering office cannot be determined, the services are deemed to be received at the office of the customer to which the services are billed. 31

32 Market Based Sourcing The New Approach Nebraska For tax years beginning on or after 1/1/14, Nebraska adopts a market base approach to source most types of services. Services are sourced to Nebraska if the sales are derived from a Nebraska buyer. If service relates to property, look to the location of the property. If service provided to an individual, look to the location of the individual. Application services (SaaS, PaaS, IaaS) sourced to the buyer s use location of the services. Catch all rule for services not addressed in the statute. Communications companies still use COP. 32

33 Market Based Sourcing The New Approach Utah Adopted market-sourcing effective 2009 (Regulation issued December 2011) Utah Code Ann (3) Services sourced to state where customer receives the greatest benefit of the service (all-or-nothing rule) Income in connection with real or intangible personal property sourced to the state if the real or intangible personal property is in Utah 33

34 Market Based Sourcing The New Approach Wisconsin Adopted market-sourcing for intangible receipts effective 2009; for service receipts effective 2005 Wis. Stat (9)(dh); Wis. Admin. Code 2.39(6)(f) Services sourced to state where benefit is received 50% of sales thrown back to Wisconsin i if taxpayer not subject to tax in state where receipts are sourced, and taxpayer is commercially domiciled in Wisconsin 34

35 Market Based Sourcing The New Approach Ohio (CAT) Adopted market-sourcing effective 2009 Ohio Rev. Code Ann (I) () Service receipts sourced to Ohio if sitused to Ohio, that is to the extent the recipient receives the benefit in the state. o o Gross receipts... shall be sitused to this state in the proportion that the purchaser s benefit in this state with respect to what was purchased bears to the purchaser s benefit everywhere with respect to what was purchased. Physical location where purchaser uses or receives the service is paramount. 35

36 Market Based Sourcing The New Approach 36 Ohio (CAT) (cont.) Service receipts sourced to Ohio if sitused to Ohio, that is to the extent the recipient receives the benefit in the state. (cont.) o If that t location is unclear, taxpayer may use an alternative ti method so long as it is reasonable, uniformly supplied, and supported by taxpayer records (even if rejected, taxpayer protected from penalty if adopted in good faith). o Generally, all receipts sourced to Ohio if purchaser is only located in Ohio; divided if purchaser uses in more than one location. Ohio Admin. Code provides rules for 54 listed services o Specific rules for 54 listed services include advertising, call center, computer programming, g, data processing, financial management, web hosting, market research and telecom, among others.

37 Market Based Sourcing The New Approach Washington (B&O) Adopted d market-sourcing effective June 1, 2010 Wash. Rev. Code Section and Wash. Admin. Code Section (5)(a)(i) B&O tax applies to apportionable activities that are measured by gross income and subject to single-factor apportionment. Apportionable income is income earned from engaging in specified activities, including most services. Numerator of receipts factor is the income from the apportionable activity attributable to Washington, under W.R.C (3)(b): o Where the customer received the benefit of the service. o o If customer received the benefit in more than one state, then income is attributable to the state in which the benefit of the service was primarily received. (>50% under Wash Admin. Code Sec ). If neither can be determined, then a series of default rules apply. Services sourced to state where services received, using tiered 37 sourcing rules.

38 Sales Tax in the Cloud TEI Presentation March 2013 Page 38

39 History of Computer Software Mainframes Centralized management; secure, limited access; higher cost Client/Server Costly to deploy and manage; added flexibility Web Simple to deploy and manage; broad access Cloud Maximum efficiency with optimized resource utilization; very flexible; on-demand self-service; service; broad network access 39

40 Service Models of Cloud Computing Software as a Service (SaaS) consumer uses provider s applications running on a cloud infrastructure. Applications can be accessed from various client devices through a think client interface such as a web-based . The consumer does not manage the IT behind the scenes and has no control. Used by individuals and businesses as a low cost alternative to traditional software. Platform as a Service (PaaS) Consumer may access the cloud infrastructure through created or acquired applications created using programming languages and tools supported by the provider. The consumer has control over the deployed applications and possibly application hosting environment configurations. Used by programmers, developers, and web designers. Infrastructure as a Service (IaaS) Consumer is able to obtain processing, storage, networks, and other fundamental computing resources and can run a range of software. The consumer does not manage/control the underlying cloud infrastructure but does control the operating systems, storage and deployed applications. Used by businesses that want complete control. 40

41 Cloud Computing - Sales Tax Nexus Nexus standards: How much presence is enough? Physical presence test (Quill) decision in question: affiliate, click-through, agency nexus laws If SaaS is prewritten/canned software, is it tangible personal property that creates a taxable presence? Will hosting a website on a server create sales tax nexus for a taxpayer? 41

42 Cloud Computing - Sales Tax Characterization of transactions is important for state sales tax determinations is this a sale, lease, license to use or a service? Transfer of TPP? TPP = Personal property that can be seen, weighed, measured, felt, or touched or that is in any other manner perceptible to the senses Michigan s Sales Tax Act defines tangible personal property to mean personal property that can be seen, weighed, measured, felt, or touched or that is in any other manner perceptible to the senses and includes electricity, water, gas, steam, and prewritten computer software under MCL a The passage of S.B would provide that prewritten computer software does not include granting the right to use prewritten software installed on another person s server in the Sales Tax Act. S.B is the complimentary Use Tax bill. 42

43 Cloud Computing - Sales Tax Transfer of TPP? Sales of software may be subject to sales tax if conveyed in tangible medium. TPP even if conveyed electronically since it is composed of electrons that have a physical existence and can be perceived by the senses. Not a sale of software since no transfer or delivery No download of digital code or product Usage fees rather than title transfer Lease License to use Not taxable because server is not in-state 43

44 Cloud Computing - Sales Tax Taxable service? User s objective may be very difficult to ascertain Use of the software Obtain information o service o Information service (NY) o Data processing service (TX, OH) o Digital automated service (WA) o Computer related service (CT) o Communication service (FL, SC) o Not an enumerated taxable service 44

45 Cloud Computing - Sales Tax If taxable, to which state should the transaction be sourced for sales tax purposes? No delivery, so no destination state? If sourcing is based on use, which is the state of use? Location of customer/user Location of the software/server Conflict with sourcing between states that source SaaS sales based upon location of customer vs. location of server If sourced by use and location of customer How do we determine where user is and where use by customer occurs? o Location of the server: What if multiple l servers are involved? o Seller location: Where application is developed and maintained? o Customer billing address o User location: Allocation of contracts/licenses for users in multiple locations? 45

46 Sales Tax in the Cloud Data Processing Services Texas The processing of information for the purpose of compiling and producing records of transactions, maintaining information, and entering and retrieving information. Texas PLR L (May, 2008): Taxpayer provided online business application where its customers entered their business information into the software via the internet. Allowed the customer to conduct various activities including managing inventory, record sales, process payroll, etc. Taxpayer position i it did not provide data processing; its customers performed any data processing activities i i Comptroller held that taxpayer provided data processing; taxpayer s computer processed the information entered by customers and made calculations to prepare a tax return (along with additional activities) Policy Letter Ruling No L (Apr. 29, 2010): Medical transcription services that used a software as a service or SaaS cloud platform to perform and deliver those services. Constitute taxable data processing services. Ohio Automatic data processing means processing of others data, including keypunching or similar data entry services together with verification thereof, orproviding accessto computer equipment forthe purpose ofprocessing data. 46

47 Sales Tax in the Cloud Information Services New York The collecting, compiling or analyzing information of any kind or nature and the furnishing reports thereof to other persons is an information service. The furnishing of information that is personal or individual in nature and that is not or may not be substantially incorporated in reports furnished to other persons is not a taxable information service TSB-M-10(7)S (July, 2010) Intended to clarify tax treatment of certain information services o Key factor is the primary function of the service o Lists a number of services that are considered information services o Revises previous positions on taxability of certain services DZ Bank (May, 2009) Web-based service that offered credit information of thousands of publicly held companies Service determined to be a taxable information service, and not an electronic financial consulting service TSB-A-09(18) (April, 2009) A web-based subscription service for on-line evaluation reports of broker-dealers is a taxable information service because a common database was used 47

48 Sales Tax in the Cloud Cloud Computing/ASP/SaaS Hardware and software resources made available on the Internet & managed third party services. May be referred to as Application Service Provider (ASP), Software as a Service (SaaS), or Cloud Computing Software housed and accessed remotely No downloads or delivery User may install temporary applet on computer/server State may treat transaction as sale/license of electronically delivered software Provision of computer services (e.g., data processing, information services) Specific tax treatment of ASP/SaaS transaction (e.g., CO, NC, TX, WA) 48

49 Sales Tax in the Cloud Examples: On-line learning and education On-line health and medical advice Social Networking websites Transferring funds between banks Salesforce.com CRM software Web-based Google Wave - collaboratively l work on same doc s at same time Virtual IT -EC2 online servers Apple MobileMe online network storage Amazon Elastic Computer Cloud Synchronization, back-up, and utility computing 49

50 Sales Tax in the Cloud ASP/SaaS Services Taxpayer s Position: Software used in ASP s server may be canned software but: o o State s Position: Customer has no control over ASP s software Customer has mere right to use, rather than a lease/license Software used in ASP s server is canned software Customer exercises dominion and control over ASP s software By exercising dominion and control over ASP s software, customer is effectively using, pursuant to a license, that software Customer is thus taxable using TPP at customer s location 50

51 Sales Tax in the Cloud Cloud Computing/ASP/SaaS Colorado Letter Ruling PLR (Dec. 20, 2011): Ruling on Web-based IT solution Fees related to Web-based file transfer and tracking solution are not subject to sales or use tax Similar to Google services Essence of the transaction: ti Not the license of software or use of hardware but obtaining a nontaxable service Rental of hardware: Customer did not have sufficient degree of control, e.g., seller retained custody of servers 51

52 Sales Tax in the Cloud Cloud Computing/ASP/SaaS Iowa Dept of Rev. Policy Letter (Jan. 11, 2012): Hosted software and training Hosted software and training fees are not subject to Iowa sales or use tax Cited the National Institute for Standards and Technology s definition of cloud computing Noted that t no software is downloaded d d or delivered d to customers; title/possession to not transferred Fees meet definition of cloud computing services No statutory Iowa authority to tax such services 52

53 Sales Tax in the Cloud Cloud Computing/ASP/SaaS Florida - TAA 10A-051, 12/06/2010 Sales of online authentication services to customers via the provision of a digital certificate (which allow an end user to recognize that he or she is indeed d accessing the customers website) are not taxable. TAA 11A-021, 7/23/2011 The sale of office management software available for download through an internet connection is not the sale of the use of tangible personal property since downloaded electronically. Kansas - Kansas Opinion Letter No. O , 06/22/2010 Fees charged by an ASP provider to its customers for ASP services are not subject to sales tax. Such fees include recurring monthly charges, set-up fees, support fees, training fees, data migration fees, and forms programming fees. However, the sale of canned software that can be used independent of the ASP service is subject to sales tax. 53

54 Sales Tax in the Cloud Cloud Computing/ASP/SaaS Massachusetts - Letter Ruling No (Apr. 12, 2011) Sale, license and right to use software on a server hosted by the taxpayer or a third party are taxable. When there is no charge for the use of the software and the object of the transaction is acquiring a good or service other than the use of the software, sales tax doesn t apply. Taxpayer provided information services to its customers based on data from prospective employees and then provides this information to its customers in a report. The object of the transaction was the database access, including reports prepared by the taxpayer, rather than use of the software; therefore the transaction was a nontaxable sale of services. Subsequent Rulings include Letter Ruling No (9/25/2012) and Letter Ruling No (7/16/12) 54

55 Sales Tax in the Cloud Cloud Computing/ASP/SaaS Missouri Letter Ruling No. LR 5753 (7/16/2009) Sale of Software hosted on a server outside of the state is not subject to Missouri sales tax because the software was not transferred by a tangible medium. Minnesota No specific guidance issued yet Cloud computing not subject to sales tax regardless of server location - considered an information service. Hosted on service provider s server. Customer only has remote access to software. Customer s use of the software is for processing only. Charges for maintenance and support are also not taxable. New York - TSB-A-11(17)S (June 6, 2011) Hosted marketing service that provides marketing services to clients that use , direct mail and other marketing channels to reach their customer is subject to sales and use tax as the sale of prewritten software. Taxpayer licenses to clients the right to use the software housed on the taxpayer s servers for the purpose of marketing campaigns. Taxpayer s charges for optional training and consulting services were not taxable. 55

56 Sales Tax in the Cloud Cloud Computing/ASP/SaaS New York (Cont.) On Demand ASP Software (TSB-A-08(62)S): License to use of out-of-state ASP software is taxable even absent delivery of the software to the user. Software is deemed to be constructively received in New York. Involved a software product that allowed a customer to upload an image onto the petitioner s servers and manipulate the image to show various colors and views (for example, a clothing item front, back). Software resides on servers located outside New York. National Football League ((TSB-A-09(37)S), Aug. 25, 2009): Use of out-of-state payroll processing service is taxable absent delivery of software because the software is deemed to be constructively received in New York. Software product allowed customer to upload payroll data to a server in Michigan. Thus customer used the software. The location of the code is irrelevant because the software can be used even without a download. Service component nontaxable. 56

57 Sales Tax in the Cloud Cloud Computing/ASP/SaaS Washington - Wash. Rev. Code (8) Imposes tax on the sale of a digital automated service, defined to mean any service transferred electronically that uses one or more software applications. DAS is not software but includes one or more software applications in providing the service. Examples include Photo sharing services, Car History Report services, Search Engines Effective July 26, 2009 Remote Access Software (ASP and SaaS) is classified as a retail sale for Business & Occupations Tax and is subject to sales and use tax since software is used to provide a service. 57

58 Sales Tax in the Cloud Questions to Ask Yourself 1. Whether SaaS is taxable = true object of the transaction 2. How does my company market itself? Does it portray itself as a SaaS provider on websites, in brochures and in advertising? 3. Does my company merely collect or store a user s data, or does it perform analysis, calculations or manipulations? 4. What language is contained in our sales agreements? Are those agreements called professional services contracts, subscription agreements, license agreements or something else entirely? 5. Are my services separately itemized? Don t want to bundle taxable and nontaxable services. 6. Is my service purely automated or is human intervention (i.e., transcribing user-provided data manually) essential to rendering the service? If so, is there a point where my service more closely resembles a nontaxable professional service (rather than a taxable service)? 58

59 Sales Tax in the Cloud IaaS/PaaS While a significant number of states have addressed cloud services from a SaaS point of view, very few states have addressed tax classification from an IaaS or PaaS standpoint. Very states have updated their statutes and regulations to address the use of this technology. 59

60 Sales Tax in the Cloud Electronically Downloaded Software Previous general definition of tangible personal property: Electronically Downloaded Software Tangible personal property includes personal property that may be seen, weighed, measured, felt or touched, or which is in any other manner perceptible to the senses. Revised general definition of tangible personal property: Tangible personal property includes personal property that may be seen, weighed, measured, felt or touched, or which is in any other manner perceptible to the senses, regardless of the method of delivery, and includes prewritten computer software. SST state required to enact language separate from tangible personal property definition in order to tax software. 60

61 Sales Tax in the Cloud Electronically Downloaded Software Texas Policy Letter Ruling No L Sales of software over the Internet are subject to sales tax if the software is downloaded to a location in Texas. No tax is due on sales of software downloaded to a location outsdie of Texas. Pennsylvania - Dechert LLP v. Commonwealth of Pennsylvania, Pa., No. 12 MAP 2008 (7/20/2010) Canned software constitutes t tangible personal property. Purchases of licenses to use canned software are, therefore, subject to Pennsylvania sales and use tax. The delivery method for the software does not determine the taxability, according to the PA Supreme Court. 61

62 Sales Tax in the Cloud What is a digital good? Tangible Personal Property Data Processing Information Services Telecommunications/Ancillary Services Software Digital Goods The ipod Revolution Why does it matter? Need to know what it is before we can determine how it will be taxed States moving toward taxation of digital goods as new revenue source SSTP definitions and rules 62

63 Sales Tax in the Cloud Digital Goods Taxation HI AK CA OR WA NV ID AZ UT MT WY CO NM ND SD NE KS OK TX MN WI IA MO AR LA IL MS IN MI TN AL KY OH GA WV SC ME VT NH NY CT MA PA RI NJ MD DE VA DC NC FL Digital Goods Taxed by DOR Position or Case Law Digital Goods Non Taxable Digital Goods Taxed by Statute 63

64 Sales Tax in the Cloud Taxation of Digital Goods Florida - TAA 11A-002 (1/13/2011) Sales transactions involving only digital transmissions via the Internet to a customer s computer, without any other evidence of the transfer of something tangible, are not sales of TPP for sales/use tax purposes. Such sales instead constitute services that are not subject to sales and use tax. On the other hand, files transferred via a hard drive, CD, flash drive, or DVD are TPP and thus subject to sales/use tax. Indiana - Commissioner s Directive #41, (September 2011) Sales and use tax is imposed on products transferred electronically only if the products meet the definition of specified digital products, ancillary services, prewritten computer software, or telecommunication services. Previously, tax was based on whether products transferred electronically were taxable in their tangible forms. 64

65 Sales Tax in the Cloud Taxation of Digital Goods Kentucky (Sec , ) Imposes tax on the retail sale of digital property, regardless of the user rights granted by the seller, or whether the buyer is obligated to make continued payments as a condition of the sale. Digital property" means any of the following which is transferred electronically: (1) Digital audio works; (2)Digital books; (3) Finished artwork; (4)Digital photographs; (5) Periodicals; (6) Newspapers; (7) Magazines; (8) Video greeting cards; (9) Audio greeting cards; (10) Video games; (11) Electronic games; or (12) Any digital code related to this property. New Jersey - N.J. Rev. Stat. 54:32B-3, 54:32B-2(zz)) Effective May 1, 2011, specified digital products are taxable. Such products are defined as an electronically transferred digital audio-visual work, digital audio work, or digital book, and includes digital code used to obtain a product. 65

66 Sales Tax in the Cloud Taxation of Digital Goods New York - TSB-A-11(20)S, July 8, 2011 Electronic books sold by CA company not subject to sales tax Ruled e-books do not meet definition of TPP Do not meet definition of information services North Carolina G.S (a)(6b), eff. Jan. 1, 2010 Imposes sales and use tax on digital property which includes: Audio works Audiovisual works Books, magazines, newspapers, other publications Photographs and greeting cards Does not apply to information services Do not include any software 66

67 Sales Tax in the Cloud California Nortel Networks, Inc. v. State Board of Equalization, Court of Appeal of California, Second District, No. BC (1/18/2011)* Other Judicial Proceedings The Court held that a license to use software to operate telephone switch hardware constitutes an exempt transfer of patent and copyright interests under the Technology Transfer Agreement. The exemption applied since the software is copyrighted, contains patented processes, and enables the user to copy the software and make and sell products embodying the patents and copyrights. *CA State Board of Equalization issued a News Release 5/27/11, indicating the CA Regulations would be amended in support of this decision. 67

68 Federal Legislation Federal legislation Marketplace Fairness Act (S.B 1832); Marketplace Equity Act (H.B 3179) and Main Street Fairness Act (S.B 1452) Gives states the authority to compel online and catalog retailers, no matter where they are located to collect sales tax at the time of the transaction. Digital Goods and Services Tax Fairness Act ( S.B. 971/HB 1860) Would prevent state and local governments from imposing multiple and discriminatory taxes on digital goods and services. The act prevents states and localities from taxing digital products differently than their tangible counterparts. 68

69 Michigan Legislation Michigan Main Street Fairness Act (H.B and Feb. 2013) Includes affiliate nexus language with greater than $10,000 in gross receipts language 69

70 70 QUESTIONS?

71 Michigan Corporate Income Tax Update TEI Presentation March 2013 Page 71

72 CIT High Level Most taxpayers will no longer be subject to MBT, effective 1/1/12 Definition of a taxpayer Tax imposed just an income tax Still have UBGs but may be different than under MBT Flow-through entities not included as members in CIT UBG Control by corporation, but may be determined through relationship with flow-through entities Is a corporate parent necessary to have a UBG? Apportionment Flow-through entity unitary with corporation or UBG has proportionate sales included in combined unitary sales factor Non-unitary flow-through entity has distributive share amount apportioned based on the entity s individual sales apportionment formula as if entity was subject to CIT 72

73 Flow-Through Treatment New for 2012 What HAS changed FTEs not subject to entity level tax Withholding on corporate/fte members of FTEs $200,000 threshold for withholding if corporate/fte members FTEs no longer required to file an entity level return of income FTEs required to file Forms 4917 and 4918 to report FTW (not Forms 160 or 165) Corporate member allowed to provide an exemption form to FTE so FTW not done on its share of distributive income What HASN T changed Withholding on NR individual shareholders of FTEs 73

74 IC DISCs What is the Issue? Is an IC-DISC subject to CIT? IC-DISC must be C corp, cannot be S corp Under CIT, a corporation is defined to be a person required or has elected to file as a C corp under the IRC Business income under CIT means FTI, as defined in IRC 63 (calculated as if IRC 168(k) and 199 not in effect), with adjustments Under IRC, DISCs not subject to FIT (IRC 991), but must compute and report federal taxable income on 1120-IC-DISC CIT defines FTI as that defined in IRC 63, with that as starting base of business income base in CIT IC-DISC not one of the exempt persons defined in CIT (MCL ) Treasury is aware of this issue and has confirmed their stance that IC-DISCs are taxable entities under CIT 74

75 IC-DISCs Michigan Tax Impact Under MBT, most IC-DISCs were likely included in a UBG (or should have been) Under CIT, the related supplier will not be a person so the IC-DISC required to file a stand alone CIT return What would an IC-DISC return look like? Depends on: State of incorporationi Location(s) of related supplier(s) How Treasury will interpret sourcing rules for IC-DISC sales What if you currently have an IC-DISC? 75

76 Michigan Apportionment Issues Differences in CIT v. IIT CIT IIT Sales include 1. Inventory sales (gross unless Gross receipts from sales of receipts from what? intangible then net gain) TPP, rental of property and 2. Performance of services that constitutes business activity providing of services that constitute business activity 3. Rental, leasing, licensing, oruse of (exclude all receipts of tangible or intangible property, nonbusiness income) including interest that constitutes business activity 4. Ifnot engaged in anyother business activities, interest, dividends, and other income from investment assets and activities and from trading assets and activities Sourcing of TPP Destination (apply new MBT 60 day rule?) Destination Throwback Rule Imposed Sourcing of non TPP receipts 76 No Location benefit is received Yes Based on costs of performance (all or nothing)

77 ITC Recapture Issues Does an ITC recapture tax benefit rule exist for assets acquired during the MBT years? Does the contribution of a tangible asset located in Michigan to a partnership p trigger ITC recapture? 77

78 Certificated Credit Election Certain credits for which approval granted prior to 2012 Election is irrevocable Election made by either: Filing an MBT return for first year ending in 2012; or Filing Form 4889, Accelerated Certificated Credit Request Extension/estimate payment is NOT considered making the election Calendar year taxpayer has until 12/31/13 to make decision if taxpayer has a valid extension Brownfield and historic credit holders can elect to pay MBT in years credit claimed and the CIT in years the credits cannot be claimed A taxpayer with a credit that becomes available in a later year (i.e., 2015 battery credit) must file MBT beginning in