One of the issues my clients regularly struggle with is the taxability of computer software. It's not so much whether the software is prewritten versus custom - or how it's conveyed to the purchaser. Prewritten computer software is considered taxable tangible personal property in New York, and it's taxable whether sold on a CD/DVD, electronically downloaded or accessed remotely via the internet. These concepts are pretty well understood by most taxpayers these days; however, what really seems to be a recurring problem is determining the situs of the software sale or purchase. For New York purposes, this means the location where the purchaser uses or accesses the software.
If your business is located in just New York, this may not be much of an issue for you. If your business has offices, branches, plants or employees in and out of New York State or in multiple states, then determining the correct amount of sales and use tax to remit on a software purchase or license is likely a concern. New York does not care where your software is installed. It could be in your server room at your facility in Buffalo, a datacenter in Montana or on the Moon for that matter; that's not the issue. The location of your employees who use that software is the issue, because only the portion of the charges related to users located in New York is subject to New York tax. If the software is billed to your address in New York and you have employees using the software outside the state, you have the opportunity to allocate the in-and-out-of-state usage and pay only New York sales and use tax on the in-state use. According to TSB-A-03(5)S, the NYS Department of Taxation and Finance will accept the following as proof of this allocation:
"a letter by a customer stating that a specific number of passwords are assigned by the customer to its sales office staff at, for example, 110 State Street, Albany, NY, an additional number of passwords to its headquarters at 1740 Broadway, New York, NY, and similarly a specified number of passwords to sales offices in Akron, OH, and Memphis, TN, would form an acceptable basis for XYZ to allocate its sales relating to such passwords between New York sales and out-of-state-sales, absent a showing of fraud or knowledge on the part of XYZ that the contents of the letter are untrue. Such a letter must be signed by the customer (or the appropriate employee or officer thereof), and contain a statement by the customer specifying the total number of employees for whom it has purchased passwords and listing, by location, where those employees are stationed, including the street address for any New York locations. Such letter should acknowledge that it is being furnished for the purpose of allowing XYZ to determine the appropriate amount of New York State and local sales and use taxes due.”
It may take some time to gather the necessary information about the location of the users; but considering sales and use tax rates are generally lower in other states as well as the differing treatment of software from state-to-state, you may be able to save considerable sales tax dollars doing this allocation. There are two sides to this coin, however. If software used by your employees in New York was billed to an address in another state, you likely owe New York use tax on the portion of the invoice attributed to those users. This scenario is often overlooked or ignored, especially when the software is billed to a location in a state that treats software differently than New York. No sales tax may be charged by the seller because electronically downloaded software is exempt in California, for example; however the software licenses designated for the employees located in Syracuse are subject to New York use tax.
Note: Please note that there is nothing written in the tax law that requires the seller of the software to accept your allocation letter as proof to collect less than the full amount of tax on the software. If that's the case, then the documentation you prepared for the allocation letter will be critical evidence to document your claim when you request a refund to recover the overpayment.
Other recent “New York (NY)” posts by Tom Mazurek, CPA:
- New York: Taxing Computer Software
- Sales Tax Free Zone in Buffalo
- Sales Tax Provisions Included in 2015-16 New York Budget
- New York: Capital Improvements v. Repairs to Real Property
- New York’s Latest Internet Tax Move: Easier Process or Easier Targets?