The Texas Comptroller of Public Accounts recently issued a letter ruling regarding the taxability of information technology infrastructure services accessed using the Internet, commonly referred to as "cloud computing" services.1 Based on the facts presented by the business requesting the ruling, the Comptroller determined that separately identified portions of the cloud computing and Web services fell within the statutory definition of taxable data processing services, telecommunications services and information services. The letter ruling also discusses local tax jurisdiction sourcing of the Company's services.
The business (Company), which is headquartered outside Texas, offers customers a cost-effective solution to maintain their information technology infrastructure by allowing customers to access server bandwidth and storage capacity via the Internet (i.e., cloud computing services). The Company uses small clusters of servers (located in Texas and other states) and operates large data centers (located outside Texas) to provide its cloud computing services.
Tax Treatment of Various Services
The Company requested the Comptroller to clarify whether certain service offerings and related fees are subject to Texas sales and use tax as data processing services or information services.
"Dumb Storage" Service
A "dumb storage" service allows customers to store, retrieve, and maintain content, data, applications and software on its servers. Customers can store and retrieve large amounts of data at any time and from any location by using the Internet. This service provides customers with the ability to upload and download data to the data center network (i.e., the "cloud") which the Company has made available to them. This service may be beneficial if a customer does not have data servers with sufficient memory capacity. The Company charges a single fee for the "dumb storage" service based on the monthly amount of storage capacity utilized.
The Comptroller explained that this dumb storage service is subject to sales and use tax as a data processing service.2 Under Texas law, data processing services include computerized data and information storage.3 However, the first 20 percent of the charge is exempt.4
Virtual/Cloud Computing Environment Service
The Company provides a scalable virtual computing environment that enables customers the same flexibility as if they own and physically have a server on site. For example, this service includes activities such as running applications, monitoring computer usage, engaging in electronic communications and hosting Web domains. No software license is sold or otherwise transferred from the Company to its customers. The software that the Company provides is used to deliver the service to its customers.
The customer is charged a fee based on its selection of the configuration of memory, CPU and storage that is needed for its desired operating system and application. The charge for this cloud computing is based on the resources consumed, and generally based on hourly rates for the length of time they use cloud computing services.
According to the Comptroller, the virtual/cloud computing environment service is taxable as a data processing service.5 The definition of "data processing services" includes computerized data and information storage or manipulation as well as use of computer time for data processing.6 Again, the first 20 percent of the charge is exempt.7
Incidental Usage Service/Fee
The customer may request services that are in addition and incidental to the dumb storage and virtual/cloud computing environment services described above. Such services may result from the customer's request to transfer or copy data from one data center or server to another. The Company may charge separately stated fees based on requests from the customer for these incidental services.
The Comptroller explained that the incidental usage fees charged in conjunction with the purchase of core Company services are subject to tax as a data processing service.8 The data transfer fees are always provided in connection with a data processing service and become part of the Company's sales price to store or manipulate data. Likewise, the first 20 percent of the charge is exempt.9
Data Positioning Service
The data positioning service intelligently determines where best to position data in the network used by the Company and how best to route end user requests to access that data. This service enables the customer to deliver digital content to end users in the most efficient manner. The customer is charged a fee based on the number of requests that the service routes and the amount of data transferred.
The data positioning services are taxable because the copying of information to network sites and routing of data requests fall within the definition of data processing, which includes data storage, manipulation and data retrieval.10 The first 20 percent of the charge is exempt.11
E-mail Sending Service
The e-mail sending service offering handles bulk and transactional e-mail by storing all outgoing messages, filtering content, and providing notification of bounce backs, failed deliveries, and spam. The customer is charged a fee based on the number of e-mail messages sent.
The Comptroller clarified that while the e-mail sending service is not taxable as a data processing service, such service is taxable as a telecommunications service.12 Texas sales tax is due if the e-mail transmission both originates from and terminates at a Texas location, or the e-mail transmission originates in Texas and terminates outside Texas but is billed for a service address located in Texas.13
Web Solution and Information Service
The Web solution and information service offering enables the customer to create innovative Web solutions and gathers information throughout the Internet, such as popularity of Web pages, Web site traffic data and other Web site link information.
This service constitutes a taxable information service.14 According to the Comptroller, gathering data from the Web and making it available to customers in the form of a list and searchable data is within the definition of a taxable information service. The first 20 percent of the charge is exempt.15
Proposed Future Activity in Texas
The Company also requested the Comptroller to clarify the sourcing of sales under the current business structure and the local sales tax rate that would be used to calculate the correct sales tax if it were to conduct the following potential future activities and operations in Texas:
- Sales Offices: The sales offices in Texas would only consist of members of the sales and marketing team. These team members would only perform sales and marketing functions. None of the Company's services described above would be performed from the sales offices in Texas, and service requests would not be accepted at these sales offices.
- Technology Development Office: The main purpose of this office would be to staff information technology engineers, architects, and technical support personnel to develop future services and maintain current services. The employees of this office would not receive any service requests.
- Full Data Center: The Company is considering utilizing a full data center in Texas instead of having servers in small clusters located in Texas. This data center would not be owned by the Company.
Comptroller's Response to Sourcing of Services
According to the Comptroller, under the current business structure, the Company is responsible for collecting the state and local use tax for sales of the Company's data processing services and information services sourced to the local jurisdiction of the customer's Texas location.16
If the Company were to consider establishing a Texas location for any of the businesses mentioned above, the Company would still be responsible for collecting and remitting the Texas state and local use tax sourced to the local jurisdiction of the customer's Texas location. None of the proposed businesses mentioned above take orders for taxable items or taxable services in Texas, and therefore, do not meet the definition of a "place of business" in Texas that would be sourced local sales tax based on that location.17
Local sales taxes on telecommunication services are sourced in a different manner. For intrastate telecommunications services, the location in Texas where the e-mail communication originates determines the local tax. The local jurisdiction of the customer's service address should be used if the Company cannot determine where the communication originates.18 Not all local taxing jurisdictions in Texas impose local sales or use tax on telecommunications services. Interstate telecommunications services, except for mobile telecommunications services, are exempt from local sales and use tax. Local taxes for mobile telecommunications services are based on the customer's primary place of use.
The conclusions in the letter ruling issued to the Company with respect to its service offerings are in line with Texas' current policies for tax cloud computing services. The major takeaway from the letter ruling is that not all of these cloud computing services would be subject to Texas sales and use tax as data processing services, such as the case for the e-mail sending service and Web solution and information service, though other sales and use tax classifications do apply. The letter ruling also illustrates the complexities of local sales and use tax sourcing in Texas. For example, local tax sourcing for telecommunications services differs from the sourcing for other taxable services. In addition, local tax sourcing for certain taxable services depends on whether the out-of-state seller or service provider has a "place of business" in Texas that takes orders from customers.
It is important to note that the letter ruling does not mention the multistate benefit exemption available to customers who may purchase the data processing or information service for use outside Texas. Only the portion of the customer's usage in Texas would be subject to Texas sales and use tax. The multistate benefit exemption is not applicable for telecommunication services.
1 Letter No. 201207533L, Texas Comptroller of Public Accounts, July 31, 2012.
2 TEX. TAX CODE ANN. § 151.0035.
4 TEX. TAX CODE ANN. § 151.351.
5 TEX. TAX CODE ANN. § 151.0035.
7 TEX. TAX CODE ANN. § 151.351.
8 TEX. TAX CODE ANN. § 151.0035.
9 TEX. TAX CODE ANN. § 151.351.
10 TEX. TAX CODE ANN. § 151.0035.
11 TEX. TAX CODE ANN. § 151.351.
12 TEX. TAX CODE ANN. § 151.0103(a).
13 34 TEX. ADMIN. CODE § 3.344.
14 TEX. TAX CODE ANN. § 151.0038.
15 TEX. TAX CODE ANN. § 151.351.
16 TEX. TAX CODE ANN. §§ 321.205, 323.205.
17 TEX. TAX CODE ANN. § 321.002(a)(3).
18 TEX. TAX CODE ANN. § 321.203(g-1)-(g-3).
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.