Illinois sales tax ruling on financial services software and services
INSIGHT ARTICLE |
On Dec. 4, 2019, the Illinois Department of Revenue issued General Information Letter (GIL) ST 19-0021-GIL, specifically addressing the imposition of Illinois Retailer’s Occupation Tax (ROT) or Service Occupation Tax (SOT) on computer software and related services sold by businesses in the financial services sector. The guidance was requested by a financial services firm engaged in selling communications software and related banking and investment management services to individual and business customers.
The department provided the following guidance when addressing whether or not the taxpayer has an obligation to collect and remit the applicable tax on its Illinois software and service sales:
- Canned software is taxable unless It meets the following five criteria described in the state’s regulations
- License agreement is evidenced by a written agreement signed by the licensor and customer; agreement must be physically signed by both parties
- License agreement restricts customer’s duplication and use of the software
- License prohibits the customer from licensing, sublicensing, or transferring the software to third parties
- 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
- The customer must destroy or return all copies of the software to the licensor at the end of the license period
- Sales of custom software configured to the specifications of a customer may not be taxable retail sales
- Cloud-based software is not subject to tax
- Subscriptions to software services are not subject to tax; however, remote service subscriptions may be taxable if software or other tangible property is received by the subscriber
- Resales of telephone services are subject to the Telecommunications Excise Tax
Chicago financial services businesses
Although not specifically addressed in the GIL, financial service businesses with nexus in Chicago that purchase or sell software may also be required to register and remit local taxes. Chicago’s Personal Property Lease Transaction Tax (lease tax) applies to businesses or individuals that either are a lessor or lessee of personal property used in the city. Subscription charges to access software over the internet (commonly known as software-as-a-service, or SaaS) and certain cloud-based services are subject to the lease tax as ‘nonpossessory computer leases’ if accessed from terminals within the city. In addition, software license contracts that meet the five criteria listed above for the state exemption are subject to the lease tax when used in the city.
Effective Jan. 1, 2020, 7.25% tax should be collected for charges related to the non-possessory lease of a computer to input, modify, or retrieve data supplied by the customer. (The lease tax rate assessed prior to Jan. 1, 2020 was 5.25%.) The tax also applies to all cloud-based products such as platform-as-a-service (PaaS), infrastructure-as-a-service (IaaS) and SaaS. Nine percent tax should be collected on charges for other lease types such as ‘database’ products where the nonpossessory lease is primarily for the purpose of allowing the customer to use the licensor’s computer and software to input, modify or retrieve data or information that is supplied by the licensor.
Businesses in the financial services sector may have ROT, SOT, or other transaction tax remittance responsibilities at the state and/or local levels in Illinois. Certain exemptions may apply based on specific transaction facts. Both the state and Chicago offer voluntary disclosure programs which may limit historical exposure. Financial services businesses with physical presence in Chicago or making sales to Illinois customers should review their current compliance situation and reach out to their tax advisers with questions.