United States: City Of Chicago Revises Guidance On Application Of Personal Property Lease Transaction Tax To Use Of Computers And Computer Software

On August 6, the City of Chicago (City) Department of Finance released revised guidance on the application of the Personal Property Lease Transaction Tax (Lease Transaction Tax) to the use of computers and computer software in Chicago, amending Personal Property Lease Transaction Tax Ruling #5. The effect of the amendment is to extend the application of the Lease Transaction Tax to certain perpetual software licenses.1 The prior version of the ruling did not explicitly address perpetual licenses, but the manner in which software was addressed may have led taxpayers to conclude that perpetual software licenses were treated as sales rather than leases. Amended Ruling #5 became effective on September 1, 2013.


The Lease Transaction Tax is imposed at a rate of 8 percent upon: (1) the lease or rental in the City of personal property; or (2) the privilege of using in the City personal property that is leased or rented outside the City.2 The terms "lease" or "rental" mean "any transfer of the possession or use of personal property, but not title or ownership, to a user for consideration, whether or not designated as a lease, rental, license or by some other term, and includes a 'nonpossessory lease.'"3 The Lease Transaction Tax applies to personal property, which includes computer software.

The prior version of Ruling #5, which became effective on June 1, 2004, stated that the lease or rental of computer software in the City was subject to the Lease Transaction Tax.4 However, the sale of computer software was not subject to the Lease Transaction Tax. The prior ruling provided that if title or ownership of the software passed in an agreement, then a sale occurred and no Lease Transaction Tax was due. The ruling specified that a software agreement which provided for an indefinite use of the software and did not require the user to return the software (i.e., a perpetual license) constituted a transfer of ownership, and therefore, no Lease Transaction Tax was due.5

The prior version of Ruling #5 also specified that services such as training and software modification were not subject to the Lease Transaction Tax, so long as these services were optional and separately stated.6 Additionally, flat fees charged to customers for customization of the software which were not included in the periodic fee for the use of the software, were not subject to the Lease Transaction Tax.7

Amended Ruling #5

Under the new version of Ruling #5, the software is subject to the Lease Transaction Tax if the license of software is not a taxable retail sale under the Illinois Retailers' Occupation Tax (ROT) pursuant to the following five-part test, all criteria of which must be satisfied:

  • The license is evidenced by a written agreement signed by the licensor and the customer;
  • The license restricts the customer's duplication and use of the software;
  • The license prohibits the customer from licensing, sublicensing or transferring the software to an unrelated third party without the permission and continued control of the licensor;
  • The licensor has a policy of providing another copy at minimal or no charge if the customer loses or damages the software, or of permitting the licensee to make and keep an archival copy, and such policy is either stated in the license agreement, supported by the licensor's books and records, or supported by a notarized statement made under penalties of perjury by the licensor; and
  • The customer must destroy or return all copies of the software to the licensor at the end of the license period.8

A perpetual license automatically meets the fifth part of this test even without such terms being explicitly set forth in the license agreement.

Pursuant to the amended ruling, any software license used in the City of Chicago that meets the five-part test and is, therefore, not subject to the ROT, would be subject to the Lease Transaction Tax. This includes perpetual software licenses that meet the five-part test, which were previously exempt from the Lease Transaction Tax.

The new version of Ruling #5 does not address the application of the Lease Transaction Tax to software-related services, such as training and customization.


The City's reversal of its longstanding treatment of perpetual licenses as sales not subject to the Lease Transaction Tax is controversial. The amended ruling is not the result of a change in law or court decision. To justify the revised guidance, the City points to the language in a state regulation, 86 Ill. Admin. Code § 130.1935, that includes the five-part test as a means to determine whether software licenses are not considered to be taxable retail sales. The City concludes that if a software license is not a taxable retail sale, it must be a lease subject to the Lease Transaction Tax. This interpretation is debatable as the state regulation cited simply states that licenses which meet the listed criteria are not taxable retail sales. The regulation does not state that the licenses are not retail sales. In fact, the state treats software licenses as retail sales under certain scenarios. For example, a person who purchases software for transfer or re-license to another can claim the original purchase was for resale.9 In this instance, the original acquisition of software is treated as a sale rather than a lease, because leases do not qualify for the sale for resale exemption.10

Additionally, a perpetual license does not meet the definition of a "lease." The primary difference between a sale and a lease is that a sale is a transfer of possession for an unlimited period of time, resulting in a transfer of ownership; whereas a lease is a temporary transfer of possession.11 A perpetual license, similar to a sale, is a transfer of possession for an indefinite period of time. Under a perpetual license, the user is not required to return the software. Consequently, an ownership interest in the software is transferred to the user. The aforementioned characteristics of a perpetual license align more closely with the elements of a sale rather than a lease. Therefore, the City's Amended Ruling #5 is likely to be the subject of debate, and potentially litigation for significantly impacted businesses.

This amended ruling will have a significant impact on software licensees in the City of Chicago. A software license that is not subject to the ROT under Illinois law, which in many cases is taxed at 6.25 percent, would be subject to the City's 8 percent Lease Transaction Tax. Licensees that are not charged the Lease Transaction Tax by the Licensor are responsible for self-assessing and remitting the tax on a monthly basis.12 Returns are filed annually and due on or before August 15 of each year.13


1 Personal Property Lease Transaction Tax Ruling #5, City of Chicago Department of Finance, effective Sept. 1, 2013.

2 Chicago Municipal Code (Ill.) § 3-32-030(A).

3 Id. at § 3-32-020(I).

4 Personal Property Lease Transaction Tax Ruling #5, City of Chicago Department of Finance, effective through Aug. 30, 2013.

5 Id. at § 4(b).

6 Id. at § 4(c).

7 Id. at § 4(d).

8 ILL. ADMIN. CODE tit. 86 § 130.1935.

9 ILL. ADMIN. CODE tit. 86 § 130.1935(a)(2).

10 ILL. ADMIN. CODE tit. 86 § 130.220; see also Private Letter Ruling ST 001-0031-PLR, Ill. Dept. of Rev., July 26, 2001.

11 See 810 ILL. COMP. STAT. 5/2A-103(1)(j); Administrative Hearing Decision No. ST 00-15, Ill. Dept. of Rev., May 3, 2000; Metropolitan Airport Authority of Rock Island County v. Property Tax Appeal Board, 716 N.E.2d 842 (Ill. App. Ct. 1999) (citing four elements of a lease).

12 Chicago Municipal Code (Ill.) § 3-32-080.

13 Id.

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