What You Need To Know About The Taxability Of SAAS In Midwestern States

Monika Miles, Sales & Use Tax Expert

Over the past several weeks we’ve been looking at the taxability of Software-as-a-Service (SaaS), cloud computing and electronically downloaded software in various states throughout the country. While some states define these revenue streams as services or tangible items, others are a little less clear, which is why it’s important to understand the tax code for each state in which your business has nexus.

While many SaaS and software companies may assume they won’t be affected by recent sales tax changes, the reality is they will be affected, and they have for years; in fact, following the U.S. Supreme Court’s Wayfair decision earlier this summer, it will be even easier for traditional multi-state sellers generating revenue from SaaS, cloud computing and electronically downloaded software to establish nexus within more states, making it even more important to be aware of how each one treats these items.
Today we’re continuing our series about the taxability of SaaS, cloud computing and electronically downloaded software by looking at three states in the Midwest: IllinoisIndiana and Ohio. Keep reading to find out if these areas are taxable in these three states, and check out our previous posts for summaries of other key regions in the country:

SaaS and Cloud Computing Rules in Midwestern States
Illinois: Nontaxable

Illinois does not impose tax on SaaS delivered via a cloud-based system, provided the transaction does not include a transfer of tangible personal property.

This means that if the software is provided via cloud-based delivery, and the software is never actually downloaded onto a customer’s computer in Illinois, the provider is acting as a serviceman rather than a retailer and the services are not subject to any of these state taxes:

  • Retailers’ Occupation Tax
  • Use Tax
  • Service Occupation Tax
  • Service Use Tax

However, if an API, applet, desktop agent, or remote access agent is provided to the subscriber to enable access to the provider’s network and services, the subscriber is then considered to have received computer software from the provider. This makes the transaction subject to tax, even if there is not a separate charge to the subscriber for the computer software, unless the transaction qualifies as a non-taxable license of computer software.

If the provider is not otherwise required to be registered for purposes of the Retailers’ Occupation Tax, and qualifies as a de minimis serviceman, the provider could elect to pay Use Tax on its cost price of the computer software.

Indiana: Depends (But Generally Nontaxable)

The taxability of “cloud-based” software or SaaS depends on the facts and circumstances of each transaction, including the amount of control or possession granted to the purchaser.

Charges for access to prewritten software located on computer servers outside of the customer’s workplace are taxable if the customer gains constructive possession and the right to use, control or direct the software’s use.

However, these charges are not subject to tax if the customer is not transferred the software, does not have an ownership interest in the software, and does not control or possess the software or the server (this is generally the case with typical SaaS contracts).

Along these lines, a subscription to an online database that allows the customer to download reports, documents and other information is not subject to tax if the customer does not gain control of the underlying software of the database.

Where a customer can show that charges are actually for professional or personal services and access to software is merely incidental to the services, the transaction will not be treated as the taxable sale of prewritten software accessed via cloud computing.

Ohio: Taxable

Customers using a provider’s SaaS or cloud-based services to perform computations, run programs or store data is subject to sales and use tax in Ohio if the customer is using the service for business purposes. By statute, such services are included in the definition of a taxable sale.

If the consumer is using the service for personal purposes, then the service is not subject to tax, however charges are taxable where the service is received.

For services related to cloud computing, the service is generally considered to be received at the customer’s terminals. The nature of such services might produce instances in which the service provider cannot ascertain the location from which the service is accessed. In this case, the service is presumed to be used at the location of the customer’s billing address.

Electronically Downloaded Software Treatment in Midwestern States

Note: For purposes of this article, we are addressing the taxability of pre-written or canned software (not custom software), which is delivered electronically. Custom software is exempt in most states, regardless of the method of delivery.

Illinois: Taxable

The sale at retail or transfer of canned software intended for general or repeated use is taxable when it is delivered electronically.

Indiana: Taxable

Prewritten computer software is subject to gross retail tax, regardless of the method by which the software is delivered (tangible medium, load and leave, or electronically).

Use tax is due on software and software licenses for which a taxpayer accepts delivery in Indiana, and for which it provides no evidence that the software or licenses were “used” in another state.

Ohio: Taxable

Ohio imposes sales tax upon the sale of prewritten software regardless of whether it is delivered electronically or via load and leave.

SaaS and Cloud Computing vs. Electronically Downloaded Software
Illinois

Because Illinois doesn’t consider SaaS or cloud computing tangible property, neither is subject to tax. However, electronically downloaded software is considered tangible property, which is why it’s subject to the state’s taxes.

Indiana

When it comes to cloud computing and SaaS, Indiana is a bit more confusing as it depends on how much control or possession the user has. Access to data doesn’t necessarily make the services taxable, however control of the database does. Electronically downloaded software, on the other hand, is always subject to Indiana’s taxes.

Ohio

In regards to SaaS and cloud computing, Ohio specifies who the end user is; for business it’s taxable and for pleasure it’s not. However, all electronically downloaded software is subject to state taxes, regardless of who is purchasing it.

Economic Nexus – Proposed Legislation

In light of the recent South Dakota v. Wayfair US Supreme Court case, we expect several states to enact economic nexus standards in the coming weeks and months. We anticipate that states will enact legislation closely resembling the South Dakota statute, which indicates that sales of $100,000 or 200 or more transactions into the state will create nexus and the requirement to collect sales tax in the state.

As of the date of this blog post, neither Indiana nor Ohio has enacted economic nexus legislation as yet, although both are considering such changes. Illinois, on the other hand, passed legislation (signed in June 2018), which has the South Dakota thresholds of sales in excess of $100,000 or 200 transactions. The law is scheduled to be effective October 1, 2018. Stay tuned for additional guidance.

Have a tax question? Contact Monika Miles.

 

 

Monika founded Miles Consulting Group which focuses on multi-state tax consulting, helping clients navigate state tax issues such as sales tax and income tax in interstate commerce, including e-commerce.

Prior to forming the firm, Monika worked for 12 years combined in Big 4 Public Accounting and private industry. Monika has provided such services as federal and state income/franchise tax compliance and consulting, sales/use tax consulting, audit support, and credits and incentives reviews. She has served clients in a variety of industries including manufacturing, technology, telecommunications, construction, utility, retail and financial institutions.

Monika graduated from the University of Texas at El Paso (UTEP) with a BBA in Accounting/Finance and has a Masters in Taxation from San Jose State University.

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