PART 1. COMPTROLLER OF PUBLIC ACCOUNTS
CHAPTER 3. TAX ADMINISTRATION
SUBCHAPTER O. STATE AND LOCAL SALES AND USE TAXES
34 TAC §3.308
The Comptroller of Public Accounts adopts amendments to §3.308, concerning computers--hardware, software, services, and sales, with changes to the proposed text as published in the June 30, 2017, issue of the Texas Register (42 TexReg 3346). The comptroller amends this section to implement Senate Bill (SB) 755, 84th Legislature, 2015, which amended Tax Code, §151.006 (Sale for Resale). The bill created a resale exemption for computer programs sold by Internet hosting providers under certain circumstances. The comptroller also amends this section to formalize prior comptroller guidance, to address uncertainties in the application of the law, and to conform more closely to the applicable statutory language.
The following people submitted comments on the proposed amendment: Mr. Mark E. Nebergall, President of the Software Finance and Tax Executives Council; Ms. Eleanor Kim, Tax Counsel of DuCharme, McMillen & Associates, Inc.; and Mr. Garry Miles of Locke Lord, LLP. The comptroller agrees to make changes to the proposed language based on some of the comments received, including revising some proposed provisions and deleting others. The comptroller intends to work with industry to address the issues identified in the deleted provisions. The comptroller declines to make additional changes based on other comments at this time.
The comptroller amends the title of §3.308 to replace the term "software" with the term "computer program," which the statute defines and which the comptroller defines in this section.
The comptroller adds new subsection (a) to define terms. The amendment reletters subsequent subsections accordingly.
Subsection (a)(1) defines the term "computer program" based on its definition in Tax Code, §151.0031 (Computer Program). The comptroller deletes similar language in subsection (b)(1) of the current section. The amendment moves to relettered subsection (c)(1)(B) the statement in current subsection (b)(1) that a computer program includes any modification, installation, or maintenance charges made in connection with the sale of the program.
The comptroller received comments from Mr. Nebergall regarding proposed subsection (a)(2). Mr. Nebergall suggested that the maintenance of a computer program (specifically, technical support), which current subsection (b)(3) and proposed subsection (c)(2) address, is not one of the taxable services that Tax Code, §151.0101 (Taxable Services) enumerates.
The comptroller notes that the repair, remodeling, maintenance, and restoration of tangible personal property is one of the enumerated taxable services in Tax Code, §151.0101. Tax Code, §151.0101(a)(5), with specific exceptions, taxes "the repair, remodeling, maintenance, and restoration of tangible personal property. . .". Tax Code, §151.009 (Tangible Personal Property) defines "tangible personal property" and provides that the "term includes a computer program...". Consequently, the maintenance of a computer program is a taxable service, unless a specific exclusion applies. Tax Code, §151.0101(a)(5)(D) excludes such activities, but only when a person who has not sold the program performs them. The services are taxable when a person who sold the program performs them. The comptroller notes that this is evident because the exclusion in Tax Code, §151.0101(a)(5)(D) would otherwise have no meaning with respect to a computer program, which is tangible personal property and therefore subject to the provision of maintenance. A presumption exists that the legislature has not performed a useless act when enacting Tax Code, §151.0101(a)(5)(D). See Liberty Mut. Ins. Co. v. Garrison Contractors, Inc., 966 S.W.2d 482, 485 (Tex. 1998) ("[The courts] do not lightly presume that the legislature may have done a useless act.")
Furthermore, Tax Code, §151.0101(b) grants the comptroller "exclusive jurisdiction to interpret" the provisions of §151.0101(a)(5). Under that authority, the comptroller has long determined that "technical support" constitutes maintenance of a computer program. See current subsection (b)(3) of this section. Moreover, because the definition of maintenance has included technical support through many legislative sessions, the legislature has accepted the comptroller's inclusion of it in his interpretation of the term with respect to computer programs. See Isbell v. Gulf Union Oil Co., 209 S.W.2d 762 (Tex. 1948) ("If the Legislature did not approve the construction which had been given the statute, it could have easily amended the law. This was not done.")
Ms. Kim also submitted comments on the proposed definition of "computer program maintenance" in subsection (a)(2). She cited to Verizon Business Network Services v. Combs, 2013 Tex. App. Lexis 4338 (Tex. App. -- Amarillo 2013, pet. dism'd). She referenced the portion of the decision in which the court stated that adding new functionality to a computer program is the creation of a new computer program, rather than the provision of a service, because modification of a program by the person who sold the program is the creation of a new program. She expressed concern that the comptroller's Audit Division is not currently following the Verizon decision. She suggested that the comptroller should apply prospectively the holding of the court from the effective date of this section.
While the comptroller appreciates Ms. Kim's comments, he declines to address audit procedures in this section. Also, the comptroller notes that, to the extent the Verizon decision construed existing statutory language, the application of that holding would not be limited to future periods.
In addition to providing comments regarding proposed subsection (a)(2), Ms. Kim also recommended that the comptroller expressly address the terms "repair" and "restoration" in this section.
The comptroller deletes proposed subsection (a)(2) defining the term "computer program maintenance" and declines to add definitions of "repair" and "restoration." However, the proposed language explaining that computer program maintenance includes error correction, technical fixes, and technical support now appears in subsection (c)(2) of this section. The Verizon decision expressly held, "[t]he definitions in section 3.292 apply when used in section 3.308, unless the context clearly indicates otherwise." Section 3.292 of this title currently defines the terms "maintenance," "repair" and "restore."
Ms. Kim also stated it would be helpful to articulate in this amendment that providing repair, maintenance, or restoration services on custom computer programs may qualify for the multistate benefit exemption under Tax Code, §151.330 (Interstate Shipments, Common Carriers, and Services Across State Lines).
The comptroller declines to address this issue in this section.
The comptroller adopts new subsection (a)(2) to define the term "contract programming." The comptroller proposed this definition as subsection (a)(3). The comptroller bases the new definition on subsection (b)(4) of the current section, which the amendment deletes, and Tax Code, §151.0101(a)(5)(D), which provides that services to repair, maintain, create, or restore a computer program, including its development and modification, are not taxable unless the person repairing, maintaining, creating, or restoring the computer program also sold the computer program. Subsection (a)(2)(A) provides examples of contract programming. The comptroller adds the terms "repair" and "restoration" to the text of proposed subsection (a)(2)(A)(iii) to more closely align the language with Tax Code, §151.0101(a)(5)(D). The comptroller also makes nonsubstantive changes to the wording of proposed subsection (a)(2)(A)(iii) for clarity.
Subsection (a)(2)(B) memorializes previous comptroller guidance that contract programming only occurs when the person performing the service did not sell, and does not own, any intellectual property rights to the computer program created, repaired, maintained, or restored. See, for example, STAR Accession No. 200812241L (December 16, 2008) (explaining that "[c]ontract programming occurs when a computer program is created for a specific client and all and exclusive rights to the program are transferred, by contract, to the client").
Subsection (a)(2)(B) also distinguishes between the retention of intellectual property rights to the program itself and other intellectual property rights a contract programmer may retain that are merely incidental to the programming service, such as rights to materials, tools, methods, or processes used to perform the service. The retention of incidental rights does not make a contract programming service taxable.
The comptroller adopts new subsection (a)(3) to define the term "Internet hosting" based on Tax Code, §151.108(a) (Internet Hosting). The comptroller proposed this definition as subsection (a)(4).
The comptroller deletes current subsection (a)(6) and moves its content to new subsection (e)(1) to consolidate resale issues into one subsection.
The comptroller amends relettered subsection (b)(2) to replace a colon with a comma and to correct a cross-reference to §3.294 of this title (relating to Rental and Lease of Tangible Personal Property).
Relettered subsection (c) memorializes additional comptroller guidance regarding computer programs and related services. The comptroller deletes existing subsection (b)(1). The comptroller reorganizes information provided in current subsection (b)(2), addressing the taxability of computer programs, in new subsection (c)(1).
Subsection (c)(1)(A) states that a computer program is tangible personal property, and the sale, lease, or license of a computer program, whether in electronic form or on physical media, is taxable. See Tax Code, §§151.0031; 151.005 (Sale or Purchase); and 151.009. The comptroller has also revised the proposed language to replace the phrase "sales or use tax" with the term "tax" to make the section easier to read.
Mr. Nebergall commented that the use of a computer program license is the use of intangible property and not a use of tangible personal property, and thus the imposition of use tax does not apply to it.
The comptroller responds that the legislature has, under Tax Code, §151.009, deemed a computer program to be tangible personal property for sales and use tax purposes. In addition, the comptroller's longstanding position is that the license of a computer program is taxable. See current §3.308(b)(2) of this title, as well as Tax Code, §151.005(2) and Comptroller's Decision No. 36,237 (1998) ("Here, the transactions at issue involve the licensing of software programs (defined by statute and rule as the equivalent of leases or rentals of tangible personal property).") The comptroller has construed this consistently through many sessions of the legislature without a related amendment to the statute, and thus the legislature has accepted it. See Isbell, 209 S.W.2d at 762.
Subsection (c)(1)(B) explains that the sales price of a computer program includes charges for related items and services, such as installation charges. This is consistent with Tax Code, §151.007 (Sales Price or Receipts). The comptroller adds the terms "repair" and "restoration" to the text of proposed subsection (c)(1)(B) to more closely align the language with Tax Code, §151.0101(a)(5).
Subsection (c)(1)(C) clarifies current comptroller policy that a purchaser may not allocate the purchase price of a computer program sold or used in Texas between Texas and another state according to a use, or benefit derived, in another state. See, for example, Comptroller's Decision No. 44,280 (2005) (explaining that sales and use taxes are transaction taxes and there is no legal basis to apportion taxes based on subsequent use of an item of tangible personal property).
Mr. Nebergall and Mr. Miles each commented on whether the purchase price of a computer program, sold under a single license and installed on a server in Texas, should be apportionable to other states based on the use of the program in those other states.
Mr. Miles suggested that the realities of current technology mean that the treatment of the computer program as tangible personal property is no longer appropriate, because no one typically delivers it, for example, on physical disks and loads it onto servers. Rather, a person may deliver it electronically and subsequently access it (i.e., use it) in any location. Mr. Miles takes specific issue with the application of proposed subsection (c)(1)(C), which does not allow a person to allocate the sale or use of a single computer program license according to the percentage of use in Texas and elsewhere. Mr. Miles noted that a person may purchase and load a computer program elsewhere, perhaps in multiple states, before eventually bringing it into Texas for use, and that Texas then applies the use tax to the entire sales price of the computer program, despite the fact that the purchaser has used it elsewhere prior to that point and may actually use it outside the state afterward. Mr. Miles understood that Texas allows credit toward the sales or use tax paid to another state, but believed that Texas should not impose the tax in full, regardless. Mr. Miles believes that treating a computer program used in many places contemporaneously as though the use occurred in only one location is contrary to the facts and leads to unfair results.
Mr. Miles proposed adding the following language to proposed subsection (c)(1)(C).
"However, the sales price of a computer program or a single license for a computer program that is used in Texas may be allocated to another state if the computer software is installed on hardware located in another state and the computer program is accessed by users outside Texas."
Mr. Miles also suggested that, for purposes of allocation under his proposed addition to proposed subsection (c)(1)(C), the comptroller should permit a purchaser to use "any reasonable method for allocation which is supported by business records."
In contrast, Mr. Nebergall agreed with the language the comptroller proposed in subsection (c)(1)(C).
The comptroller appreciates the difficulties created by changing technologies. He notes, however, that the legislature has deemed all computer programs to be tangible personal property, regardless of the specific attributes of any one program. Therefore, the comptroller declines to change the language of proposed subsection (c)(1)(C).
The comptroller proposed new subsection (c)(1)(D) to clarify that the use in Texas of a computer program licensed from an out-of-state vendor and residing only on an out-of-state server is taxable. This proposed guidance memorialized Comptroller's Decision 44,040 (2005) (explaining that "use [of a computer program] in Texas may occur even though no physical media has entered into the state").
Mr. Nebergall, Ms. Kim, and Mr. Miles all took issue with proposed subsection (c)(1)(D) because they contend that a computer program must enter Texas in order to be subject to the Texas use tax. They suggested that, since a computer program must enter Texas, whether in electronic or physical form, to become subject to the use tax, simply accessing in Texas a computer program residing on a server outside the state is not sufficient to create a taxable moment for use tax.
The comptroller withdraws proposed subsection (c)(1)(D) for this amendment. The comptroller may address this issue in a future amendment, but intends to work with industry in order to address the comments raised.
In her comments, Ms. Kim proposed that the comptroller should address the issue of software-as-a-service in this amendment. The comptroller declines to address software-as-a-service at this time, but may address the issue in a future amendment.
New subsection (c)(2) addresses computer program repair, maintenance, and restoration. This subsection retains the substance of current subsection (b)(3), but clarifies that the repair, maintenance, or restoration of a computer program performed by the person who sold the computer program is taxable. The amendment adds to the proposed language the terms "repair" and "restoration." The amendment also incorporates language from proposed subsection (a)(2) explaining that repair, maintenance, and restoration include error correction, technical fixes, and technical support. In addition, the amendment adds a clarifying statement to memorialize longstanding comptroller policy that technical support may include remote assistance provided over the telephone or on-line. See, for example, Comptroller's Decision No. 32,349 (1995).
New subsection (c)(3) incorporates language from current subsection (b) providing that separately stated charges for instruction on the use of a computer program by the person who sold the computer program are not taxable. The comptroller amends the language to improve readability.
New subsection (c)(4) amends and restates language in current subsection (b)(4) providing that charges for contract programming are charges for the sale of a service and are not taxable.
The comptroller amends relettered subsection (d) to correct typographical errors and to improve readability.
New subsection (e) implements SB 755. Subsection (e)(1) preserves the content of current subsection (a)(6) and adds the term "computer program" to indicate that resale provisions apply to computer programs and hardware since both are tangible personal property. Subsection (e)(2)(A) establishes a new qualification for resale purchases of computer programs by Internet hosting providers. Clauses (i)-(v) identify the requirements to qualify for the resale exemption.
Subsection (e)(2)(B) provides that, when an unrelated vendor recommends or requires routine maintenance, and the Internet hosting provider provides that maintenance, such maintenance does not invalidate the qualification for resale subparagraph (A) of that paragraph describes.
The comptroller corrects the language of proposed subsection (e)(2)(B) by replacing the term "Internet service provider" with the term "Internet hosting provider."
The comptroller adopts this amendment under Tax Code, §111.002 (Comptroller's Rules; Compliance; Forfeiture), which provides the comptroller with the authority to prescribe, adopt, and enforce rules relating to the administration and enforcement of the provisions of Tax Code, Title 2, as well as Tax Code, §151.0101(b), which provides the comptroller with exclusive jurisdiction to interpret Tax Code, §151.0101(a).
The amendment implements Tax Code, §§151.0031 (Computer Program); 151.005 (Sale or Purchase); 151.006 (Sale for Resale); 151.007 (Sales Price or Receipts); 151.009 (Tangible Personal Property); 151.010 (Taxable Item); 151.0101 (Taxable Services); and 151.108 (Internet Hosting).
§3.308.Computers--Hardware, Computer Programs, Services, and Sales.
(a) Definitions. The following words and terms, when used in this section, shall have the following meanings, unless the context clearly indicates otherwise.
(1) Computer program--A series of instructions that are coded for acceptance or use by a computer system and that are designed to permit the computer system to process data and provide results and information. The series of instructions may be contained in or on magnetic tapes, semiconductor chips, punched cards, printed instructions, or other tangible or electronic media.
(2) Contract programming--Services to create or develop a new computer program, or to repair, maintain, modify, or restore an existing computer program, when the person performing the services did not sell, and retains no rights in, the computer program being created, developed, repaired, maintained, modified, or restored.
(A) Examples of contract programming include:
(i) writing a new computer program to perform a particular function for the customer where all rights in the program are transferred to the customer;
(ii) customizing a computer program owned by the customer or licensed to the customer by a third party; or
(iii) modifying a computer program or performing repair, maintenance, or restoration on a computer program that the programmer wrote for the customer under a prior contract programming agreement.
(B) Contract programming only occurs when the person performing the programming services transfers all rights, including intellectual property rights such as those rights arising from copyrights, patents, and trade secret laws, to the computer program being created, developed, modified, maintained, repaired, or restored to the purchaser of the contract programming services. Notwithstanding other provisions of this paragraph, a person performing contract programming services may retain rights to property including materials, tools, methods, and processes used in the performance of the service. A person performing contract programming services may also retain rights to an incidental program or incidental component of a program included under an agreement to provide contract programming services. Examples of incidental programs and incidental components of a program are installers, drivers, macros, and subroutines.
(3) Internet hosting--Providing to an unrelated user access over the Internet to computer services using property that is owned or leased and managed by the provider and on which the user may store or process the user's own data or use software that is owned, licensed, or leased by the user or provider. The term does not include telecommunications services.
(1) The sale, lease, or rental of computer hardware, including central processing units and all peripheral equipment, parts, and supplies, is subject to the sales and use tax.
(2) A taxable rental or lease can occur without the right to move the hardware if the lessee has total operational control of the hardware. For example, a lessee may contract to use a computer on the owner's premises for an exact period of time weekly. The lessee provides the operator and all materials. During the time of use by the lessee, no one else may use the hardware. This transaction constitutes a transfer of the total operational control of the hardware, which is a lease or rental of tangible personal property. However, if the owner provides and directs the operator, operational control has not been transferred to the lessee. The transaction will not be considered the rental or lease of the hardware. Note: if the only supervision provided by the owner is for maintenance or training on proper use, this is not providing an operator. See §3.294 of this title (relating to Rental and Lease of Tangible Personal Property).
(3) Sales tax is due on charges for labor or services rendered in installing or applying computer hardware.
(4) Sales tax is due on charges for labor or services rendered in remodeling, repairing, maintaining, or restoring computer hardware. See §3.292 of this title (relating to Repair, Remodeling, Maintenance, and Restoration of Tangible Personal Property).
(5) Installation charges for remote terminals are taxable whether or not separately stated. Charges for telephone lines are taxable.
(c) Computer programs and related services.
(1) Computer programs.
(A) The sale, lease, or license of a computer program is a sale of tangible personal property. Tax is due when the computer program, or a license to use the computer program, is transferred for consideration in Texas, or stored, used, or consumed in Texas, in electronic form or on physical media.
(B) Sales price. The sales price of a computer program includes all charges made in connection with the sale of the program, which may include charges for installation, modification, repair, maintenance, or restoration, whether or not separately stated.
(C) The sales price of a computer program, or a single license for a computer program, that is sold or used in Texas may not be allocated to other states based on the purchaser making copies of the program for use in another state; installing the program on hardware located in another state; or accessing the program in another state.
(2) Computer program repair, maintenance, and restoration. Charges for computer program repair, maintenance, or restoration by a person who sold the computer program are taxable. Computer program repair, maintenance, or restoration includes error correction, technical fixes, and technical support, whether provided over the Internet or over the phone.
(3) Instruction. Separately stated charges for instruction on the use of the computer program by a person who sold the computer program are not taxable.
(4) Contract programming services. Contract programming may result in the creation of tangible personal property, but it does not constitute the sale thereof. Charges for contract programming are charges for a service and are not taxable.
(d) Sales. The following are examples of transactions which involve the sale of taxable items and are taxable.
(1) A separate charge for additional copies of the result of services is taxable.
(2) The charge for processing, printing, or producing tangible personal property by a computer is taxable unless the processing, printing, or producing is performed as an incidental part of a nontaxable service. Examples of taxable processing, printing, or producing include standardized amortization or depreciation tables, newsletters, and advertising.
(e) Sales for resale.
(1) A resale certificate may be issued by a purchaser only if hardware or a computer program is purchased for the exclusive purpose of resale. If the purchaser makes a taxable use of the hardware or computer program while holding it for resale, the purchaser is liable for sales tax. See §3.285 of this title (relating to Resale Certificate; Sales for Resale).
(2) Internet hosting providers.
(A) A sale for resale includes the sale of a computer program to an Internet hosting provider in a transaction that meets all criteria in this subparagraph, regardless of whether care, custody, and control of the computer program is transferred to the user of the Internet hosting service.
(i) The Internet hosting provider acquires the program from an unrelated vendor for the purpose of selling the right to use the program to an unrelated user of the provider's Internet hosting services in the normal course of business and in the form or condition in which the provider acquired the program;
(ii) the Internet hosting provider offers the unrelated user a selection of computer programs that are available to the public for purchase directly from an unrelated vendor;
(iii) the Internet hosting provider executes a written contract with the unrelated user that specifies the name of the computer program sold to the unrelated user and includes a charge to the unrelated user for computing hardware;
(iv) the unrelated user purchases the right to use the computer program from the Internet hosting provider through the acquisition of a license; and
(v) the Internet hosting provider does not retain the right to use the computer program under that license.
(B) The performance by the Internet hosting provider of routine maintenance of the computer program that is recommended or required by the unrelated vendor of the computer program does not affect the application of subparagraph (A) of this paragraph.
The agency certifies that legal counsel has reviewed the adoption and found it to be a valid exercise of the agency's legal authority.
Filed with the Office of the Secretary of State on January 2, 2018.
Comptroller of Public Accounts
Effective date: January 22, 2018
Proposal publication date: June 30, 2017
For further information, please call: (512) 475-2220