Does your business provide cloud-based computing services to customers in various states or outside the country?  If so, your business may unknowingly be subject to sales tax and use tax in the jurisdictions where your customers are located, and you could be subject to value-added tax (VAT) if those customers are located outside the US.

The cloud blurs geographic boundaries
One challenge with cloud-based services is defining where the transaction occurs and where the service is delivered. Even if your business does not perform any services outside of your home state, you could be assessed taxes (and perhaps interest and penalties) by the jurisdiction in which your customers reside.

In an effort to keep up with changes in technology, states are amending their tax laws to subject cloud-based services to sales and use tax.  For example, the New York Department of Taxation and Finance determined that cloud-based services that were hosted on servers located outside of New York were nonetheless subject to sales and use tax in New York if the software is accessed by customers with New York addresses.

Value-added tax and "place of supply" rules
This is not just a domestic issue. Many countries have adopted "place of supply" rules when assessing value-added tax to cloud-based services. Generally, these rules focus on either the location of the service provider or the location of the customer to determine the tax consequences of a transaction. Thus, a supplier of cloud-based services may be subject to VAT based on the location of its customers.

Because many businesses are unaware of the tax implications resulting from the provision of cloud-based services to customers outside their home state, they can find themselves burdened with significant tax liabilities. If you offer cloud-based services, you will need to know the different states' tax treatments and compliance requirements.

Selling a business: How tax exposure affects the price
For owners looking to sell their business, the potential tax exposure in one or two key states can drive down the price of the business, significantly more than the known exposure. If the issue arises during the due diligence process, the buyer may significantly reduce the purchase price or require funds to be held in escrow to cover any liabilities that may be assessed, especially if the extent of the exposure is unknown. To avoid this situation, you can do a preemptive review of your exposure, and, if needed, file Voluntary Disclosure Agreements (VDAs) prior to entering sales negotiations.

The cloud rules keep shifting
At BerryDunn, our state and local tax (SALT) practice helps clients navigate through these ever-changing tax rules to minimize tax exposure and protect value.

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.