State & Local Tax Alert
Breaking state and local tax developments from Grant Thornton LLP
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New York Department Determines Cloud Computing Services Are
Not Subject to Sales and Use Tax
Release date
June 17, 2015
On April 14, 2015, the New York State Department of Taxation and Finance issued an
Advisory Opinion responding to a petitioner’s request as to whether the sale of a certain
cloud computing product was subject to New York State sales and use tax.1 The
Department concluded that the product essentially constituted the provision of
computing power to its customers, which was not considered an enumerated service
subject to the sales and use tax.
State
Description of the Cloud Computing Product
Contact details
The product sold by the petitioner provides customers with Internet infrastructure and
computing power. Customers can use this infrastructure for a variety of purposes
including running applications for internal purposes and hosting commercial Web sites.
The product is a model of computing in which the petitioner provides scalable computing
resources as a service. The computing capacity and scalability is utilized by customers to
execute applications. Specifically, customers use the petitioner’s cloud computing product
to run applications, including data analysis software, intranet software, and e-commerce
software.
New York
Issue/Topic
Sales and Use Tax
Matthew DiDonato
New York - Midtown
T 212.542.9960
E [email protected]
Raymond T. Melone
New York - Midtown
T 212.542.9940
E [email protected]
John O’Brien
Melville
T 212.542.9527
E [email protected]
In order for the product to function, customers must use operating system software
and/or applications. The customers may choose either the petitioner’s open-source
operating system (“Open Source Instance”) or a designated third-party operating system
software (“Third Party Instance”). Open Source Instance software is accessed by
customers at no charge from the petitioner. Third Party Instances involve the petitioner
licensing the software from a third-party for use in providing the product to its customers.
The petitioner does not sublicense the software to its customers or allow any downloading
of software.
Savanna Milasuski
New York
T 212.624.5363
E [email protected]
The pricing model for the product is based on hourly rates for the computing resources
consumed by each customer, as well as whether Open Source Instance or Third Party
Chuck Jones
Chicago
T 312.602.8517
E [email protected]
William Pardue
New York
T 212.542.9715
E [email protected]
Jamie Yesnowitz
Washington, DC
T 202.521.1504
E [email protected]
Lori Stolly
Cincinnati
T 513.345.4540
E [email protected]
1
.
Advisory Opinion, TSB-A-15(2)S (N.Y.S. Dep’t of Taxation & Fin., Apr. 14, 2015).
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Instance is utilized. There are no fixed fees or separately stated charges for the use of any
software or application. The charges are solely for providing computing resources.2
Department Analysis and Conclusion
The Department began its analysis by noting that the New York Tax Law imposes sales
and use tax on the retail sale of prewritten computer software, as well as certain
enumerated services. The Department explained that the product grants customers access
to computing power, enabling those customers to run their own software applications.
The Department noted that its regulations consider the granting of the right to use a
third-party operating system to be a transfer of the right to use prewritten computer
software and, therefore, subject to the sales and use tax.3
The Department determined that while customers are transferred the rights to use an
operating system representing prewritten computer software, it is merely used as a portal,
and, therefore, incidental to the services provided by the petitioner. Customers use the
operating system for the computing power necessary to run applications of their choosing,
such as for managing applications, performing searches, and other administrative
functions. Customers are seeking the right to use the petitioner’s computing power
service capabilities, rather than the right to use the petitioner’s prewritten software itself.
In support of this claim, the Department noted that the advertising material of the
petitioner explained the purpose of the product is to provide customers with computing
power to run applications. Additionally, the Department noted that the petitioner’s Web
site demonstrates an emphasis on the scalability of the computing power offered, the ease
of accessing it, and its reliability and security.
The Department determined that the primary purpose of the product was the sale of
computing power and, conversely, that the right to use the petitioner’s prewritten software
is only an incidental part of providing this service. Therefore, the Department concluded
that the product was not subject to sales and use tax because providing customers with
computing power is not considered a service made taxable by the New York Tax Law.
Commentary
Prior to the issuance of this Advisory Opinion, the Department, along with many other
taxing authorities, had been lagging in providing taxpayers with adequate guidance on how
sales and use tax should apply to cloud computing or platform as a service (PaaS)
applications. With minimal guidance, the taxability of these transactions was largely left up
for interpretation by businesses selling these products. This situation has been particularly
troubling because uncertain sales and use tax positions can result in deficiencies from a
taxing authority or claims for refunds by customers. In practice, New York State auditors
used their discretion to make the taxability determinations. This Advisory Opinion is
significant because it breaks the silence by providing a piece of guidance in this unknown
territory.
2
The petitioner does charge a data transfer fee which is separately stated on the customer invoice.
The taxability of this fee was not addressed in the Advisory Opinion.
3 N.Y. COMP. CODES R. & REGS. tit. 20, § 526.7(e)(4).
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Even though Advisory Opinions are not precedential, this Advisory Opinion is instructive
because it illustrates the ongoing Department view that transferring the right to use prewritten software that is merely incidental to a service does not create a taxable transaction,
provided that the primary purpose of the transaction is for the customer to receive a nontaxable service. Further, this Advisory Opinion provides insight as how the Department
makes the determination that the primary purpose of a transaction is not the right to use
pre-written computer software. Specifically, the Department explained that it will look to
the facts regarding the use of a specific product and the advertising of that product when
making a determination as to its taxability.
Further, this Advisory Opinion may be used in concert with prior Advisory Opinions to
form a picture of the Department’s view of the primary purpose test with respect to online
or cloud-based services. While it is unfortunate that neither the Department nor the New
York legislature has issued a bright-line test as to taxability, certain common factors for the
primary purpose test seem to be emerging, including the following: (1) advertising of the
product; (2) whether the product comes in multiple variants; (3) whether customers may
use different components of the product without incurring extra charges as a result;
(4) whether the different components are highly synergistic; and (5) whether customer
invoices have multiple charges.4 In addition, these factors should be considered with
respect to the ASC 450 positions taken by taxpayers.
Despite the Department’s release of this Advisory Opinion, this is still an area that is
continuously evolving in order to keep up with the rapid advancement of technology
services, where guidance stems from determinations made only on a case-by-case basis of
specific facts and circumstances. Taxpayers should consult with their advisers as to how
their specific fact situation is likely to be viewed by the Department.
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addressed.
4
See Advisory Opinion, TSB-A-13(12)S (N.Y.S. Dep’t of Taxation & Fin., Apr. 23, 2013).