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Idaho Enacts Important Sales Tax Law Affecting Software

Added by Richard G. Smith in Articles & Publications, Tax Law on June 30, 2014

On July 1, a law will become effective that will clarify and expand an exclusion of software purchases from Idaho’s sales and use tax. Under the new law, purchases of software will be taxable only if the software is delivered in tangible form (such as a disk), or it if contains content containing books, videos, music or games. Rick Smith and other Hawley Troxell lawyers were part of the team that drafted this legislation, and they also provided analysis and advocacy leading to its passage.

The impetus for this legislation was initially to clarify the tax treatment of “cloud software” – software applications that are accessed over the internet, with no actual physical or electronic delivery of the software itself. Idaho law was arguably very broad in subjecting software transfers to tax regardless of how the software was delivered to the user. However, software accessed over the internet (the “cloud”) is not “delivered” at all, and taxpayers argued there was no transfer of property that was taxable. Instead, the vendor of the cloud software application is effectively offering a service, and services are generally not subject to tax.

The clarification to exclude cloud software from tax was effected in a bill passed in 2013. However, in the rulemaking process, the Tax Commission argued the law was unclear in an important respect: Cloud software applications will usually have features that allow subscribers to download or print the output that is needed by the user. The Commission contended that the ability to download the output from a software program means the software is no longer solely a remote or “cloud” application , and that all or some portion of the transaction might be taxable.

The taxpayers responded that all remote or cloud applications will involve some output that makes the application useful to the subscriber. The Tax Commission’s position would have frustrated the clear intent of the legislation.

The 2014 bill resolved the Tax Commission’s argument directly – by clarifying and expanding the exclusion from tax to include any software that is electronically delivered. Thus, there no longer will be arguments about whether a cloud software application will be taxable because it includes the ability to download a report. The new law is an expansion of the tax exclusion because now all electronically delivered software is free from tax, even if it is not associated with a cloud software application.

With the passage of this law, Idaho joins twelve other states that do not tax software that is electronically delivered. (Five other states have no sales tax at all.) Although the legislation has been criticized for having a big fiscal impact, proponents of the bill challenge the fiscal numbers and also point out that more and more software users are expected to migrate to cloud applications, and so these applications would not have been taxable anyway. The legislation also shows Idaho’s support for the software development industry in particular, and for business in general.

For more information about this development or any other Idaho tax issues, please contact Rick Smith at 208.344.6000.