In today’s technological society, every business is purchasing or licensing some type of software. However, vendors are not always charging sales tax on these purchases, or in some instances, sales tax is being charged incorrectly.
Are you paying the correct sales tax on your software purchases/licenses and/or your software maintenance agreements?
Rules for Taxability of Software and Maintenance Agreements Vary
The type of software, where it is being used, how it is billed on the invoice, and the items included in the charge determines its taxability. The rules vary from state to state.
In general, “canned software” is subject to sales tax in most states. “Canned software” is prewritten software not designed or developed to the specification of a specific buyer. It is software you can buy off the shelf. Some states have an exemption for software which is electronically delivered. However, reasonable and separately stated modifications and custom software are generally exempt from sales tax. Most states also exempt maintenance agreements for software, training and installation of software if separately stated on the invoice. Whereas, maintenance agreements that cover hardware or agreements that contain upgrades to software are subject to sales tax. In most states, exempt items need to be reasonable and separately stated from the taxable items on the invoice, in order for them to be exempt from sales tax.
It is also important to check any invoices and review software contracts and maintenance agreements for any software you purchase. This is important because usually these contracts or agreements detail out what is being included in the sales price. (For example, does your maintenance agreement include software upgrades?) Computer expenses (software, maintenance agreements, etc.) seem to be a common area reviewed during sales tax audits and seem to be a high exposure area.
When the Software Purchaser is Responsible
In some instances your software vendor may not be registered in the state you are using the software and therefore is unable to charge you the proper state sales tax. This does not make the transaction exempt. The responsibility then shifts to you, as the purchaser, and it is your responsibility to self-assess use tax on the taxable piece of the invoice. Complexity becomes an issue when the invoice is issued as a simple lump sum. It might be hard to tell what is actually included in the sales price. This is when careful review of the agreements needs to be done to determine what is included and its taxability. Determining what is subject to state sales tax can also be complex.
We Can Help with the Complexities of Software Sales Tax
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Related companies often use intercompany master service agreements in order to allocate common costs of doing business among the related entities. Depending on the size and nature of the business conducted, these service agreements can be extensive and include several services that are used throughout the related companies.
Something that business owners may not consider when drafting these agreements is the possibility that sales tax may need to be collected on the services provided. To complicate matters, each state has different laws that dictate whether services provided are subject to sales tax. Therefore each state that the related companies are located in should be considered in any sales tax analysis of intercompany service fees.
Sales Tax in New York
In New York State, sales of services are generally exempt from sales tax. However, services related to tangible personal property, software, and real property can be subject to sales tax and should be reviewed carefully if such services are included in an intercompany services agreement.
For example, if a service agreement includes repair and maintenance or installation services to computers, equipment, vehicles, or other tangible property, those services are subject to sales tax. License fees for access to software applications, unless specifically customized for the purchaser, are also subject to sales tax in New York State.
Avoid Costly Errors in Classification
If services related to real and tangible personal property are included in a service agreement, it is crucial to segregate these services on the invoice to the purchaser. It’s very likely that the majority of the services performed under an agreement are nontaxable due to the fact that in general most administrative services are exempt from sales tax. However, in most states, bundling both taxable and nontaxable services under a general label of “management fee” will make the entire transaction subject to sales tax. Consequently, for companies with large management fee income, an error in classification could be very costly.
If your business utilizes intercompany service agreements and has not performed a sales tax analysis, you should discuss the possible audit risks that you may face and steps to ensure proper tax filing compliance with a professional.
Freed Maxick's SALT team can assist with analysis of your service agreement to determine taxable versus nontaxable sales and review invoices for proper segregation of services to make certain that nontaxable sales do not become subject to sales tax. Contact us to get started.View full article
By: Amanda Roth, Senior Tax Manager
Halloween is a signifier of many things. It brings to mind the fall season, children running around in costumes, carving pumpkins, baking apple pies, and eating candy. Few look at the picture at right and think about paying sales tax. But sales tax applies to many things- including Halloween items. Here are a few sales tax facts to consider this Halloween.
In New York State, sales of pie pumpkins, gourds, and other items sold in supermarkets that are used by a purchaser in cooking pies, cakes, breads, cookies, etc., are exempt from New York sales tax because they constitute food sold for human consumption. However, decorative and carving pumpkins (including decoration gourds) are not being marketed or sold in their normal or intended use for human consumption. Thus, decorative pumpkins and gourds, and carving pumpkins, whether sold in supermarkets, farm stands, nurseries, or other businesses, are not sold as “food” and constitute tangible personal property subject to sales tax. So if you are buying a pumpkin which you will use to bake a pie then it is exempt from New York sales tax. However, if you are buying a carving pumpkin to carve a jack-o-lantern, that pumpkin is subject to New York sales tax.
In addition, generally, food, food products, beverages, dietary foods and health supplements sold for human consumption are not subject to New York sales tax. However, the exemption does not apply to candy and confectionery. Therefore, Halloween candy is subject to New York sales tax.
Also, beginning April 1, 2012, there is an exemption from New York state sales and use tax for clothing, footwear, and items used to make or repair clothing, costing less than $110 per item or pair. This exemption does not apply to locally imposed sales and use taxes unless the county or city imposing those taxes elected the exemption. For purposes of the exemption, the term "clothing and footwear" is defined to mean: clothing and footwear to be worn by human beings. This does not include costumes or rented formal wear; fabric, thread, yarn, buttons, snaps, hooks, zippers and like items that are used or consumed to make or repair such clothing (other than costumes or rented formal wear) and become a physical component part of the clothing. Therefore, the pants you buy to take you child “trick or treating” are exempt from New York sales tax but your child’s Halloween costume is subject to New York sales tax.
New York state sales tax is complicated and most areas are not straight forward. Sometimes the use of an item dictates whether and item is subject to sales tax. If sales tax is this complex for Halloween items, imagine how complicated they can be when considering whether your business needs to collect sales tax.
For information about how Freed Maxick can help guide and manage your individual or business tax strategies, contact us to learn more.
Author: Amanda Roth, CPA
What does this image make you think of? It makes me think of all the recent sales tax audits I have been involved in. The most dreaded letter to get in the mail is the one that reads “We’ve scheduled an audit of your New York State sales and use tax records”. Even if all your records are in order and all your sales tax has been paid, the process can be overwhelming and you may not know what to expect. If you feel anxious, terrified, or even a little nauseous at the prospect of an audit, you are not alone, many feel as you do. It can be a daunting task to get organized for an audit. But don’t panic, these tips may help your audit go more smoothly.
Surviving a Sales Tax Audit
- Locate all your records – Make sure you can find all the records the auditor is asking for, if not try to obtain them from other sources (tax returns from your CPA, bank statements from online or from your local branch, etc.)
- Get Organized – Organize all your records according to the request list and present them in an organized manner (i.e.: by year or alphabetically). As a CPA I recommend setting up a binder, printing the request list and setting up tabs that correspond to each item requested. Some items, such as invoices, are too large to put in the binder. For these types of documents, a box will suffice, and then reference their location in the binder. Purchase invoices should be grouped together per vendor and listed in date order. This is usually done to make it easier to pull out the applicable invoices if a test period is chosen, or to search a particular vendor file quickly if the auditor wants to view certain expenses.
- Be prepared - Always make sure you have what the auditor has requested before scheduling an appointment. No one likes wasting time and it will make the audit move along more quickly.
- Put your best foot forward – Always look at everything you provide an auditor and ensure all work papers tie out to reports and/or returns provided. Present and retain records as organized as possible and ensure the records you print agree to reports or returns. Sometimes if you rush and just gather the information, errors can occur.
- Make sure you have your “A Team” - Decide if you will be representing yourself or if you will be getting your CPA involved to help in the process. Most businesses feel they can handle an audit on their own to save on costs. However, there are times where having a representative saves money in the long run. A representative allows your employees to focus their time on what they are best at (usually the operations of the company). Some considerations in deciding whether to go it alone or get your CPA involved are as follows: cost, resources, capacity, technical knowledge, business needs, condition of record or lack thereof, and knowledge of audit procedures.
These five basic tips will help make any audit go more smoothly. I always recommend getting your CPA firm involved; they are accustomed to the many obstacles of audits and might be able to help clear a path to a smoother audit; alleviating that anxious and overwhelming feeling that many get.
Contact Our Sales Tax Professionals
If you are not sure what steps to take next, contact Freed Maxick. We can help you navigate through a sales tax audit, and help get you organized. Please contact us for more information.
Senate Approves Internet Sales Tax: Measure Headed to House
The U.S. Senate has overwhelmingly, and with strong bipartisan support, passed the Marketplace Fairness Act of 2013 (the Act) by a vote of 69-27. The bill would allow a state to require certain remote sellers to collect sales and use tax on sales made to customers in the state. States that are members of the Streamlined Sales and Use Tax Agreement (SST) would automatically be granted this authority. States that are not SST members would be required to implement simplification requirements. The bill provides an exception for businesses with annual remote sales of $1 million or less.
Highlights of the report available below include:
Authorization of Tax
Collection on Remote Sales
Small Seller Exception
Relief from Liability
To check out a detailed summary on the Marketplace Fairness Act, click HERE for the full report.
When it comes to taxes, Freed Maxick CPAs is different than most accounting firms in Western New York. To us, tax time is all the time. We’re sticklers about deadlines and compliance, but our larger goal is tax management. So we keep a year-round eye on federal, state and local tax laws, including those pending. We alert you to any changes that may affect you and help you respond in a timely way.
We have the experience and resources necessary to resolve all your tax issues no matter what the complexity, including:
Capitalization vs. Repair
Cost Segregation Services
Foreign Bank Account Report Compliance
International Tax Services
New York (NY) State Excelsior Jobs Program
Personal Tax Services
Research & Development (R&D) Tax Credits
State and Local Tax Services
State Tax Analysis & Resolution
Tax Planning and Consulting
Transfer Pricing Analysis – Study
Tax Planning and Consulting
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