When a person or company buys a software program on a tangible disc or flash drive, states breathe easy. The item sold is “tangible personal property” and generally subject to sales tax.
But things get tricky when it comes to Software as a Service (SaaS). With SaaS, customers access their software online, generally via subscription, and if they stop paying, they no longer get access to the software. With SaaS, tangible software like a disc generally doesn't change hands.
For states, many of which tax tangible personal property but not services, SaaS is a conundrum.
This post delves into each state’s rules and laws on SaaS. We’ve included sources so that you can investigate for yourself.
But, as a SaaS company, before deciding that you should (or should not) collect sales tax on your SaaS product, there are a few important things to consider when it comes to sales tax compliance.
The Definition of “SaaS” Varies from State to State
Some states see SaaS as a tangible personal property because it is an electronic version of a “prewritten computer software” that would have, in the past, or still could be sold via disk or other tangible means.
Other states see SaaS as a non-taxable service. Still other states see SaaS as a taxable service.
What to look out for is that many states tax SaaS, which is accessed remotely, differently than a downloaded software that lives on a user’s computer or server.
When making a determination about whether or not you should charge sales tax on your SaaS product, look closely at how the state defines SaaS.
Since SaaS is still a fairly new way of doing business, some states have only obliquely referred to SaaS in their rules and laws. We always recommend that you consult a state and local tax expert (SaLT) about your business’s specific use case when it comes to SaaS taxability.
Some States Tax SaaS Differently Based on Usage
Maryland considers SaaS for “personal use” to be taxable, but SaaS for “business use” to be non-taxable. Ohio is the direct opposite, taxing SaaS for business use but not personal use.
SaaS Taxability Can Blend Old and New Sales Tax Laws
In Mississippi, SaaS is only taxed if the server where the app is hosted is located in-state. This is a callback to a time before South Dakota v. Wayfair when a business had to have some sort of physical presence in a state before being required to collect sales tax in that state.
While some states have changed their rules and laws to accommodate the particular set of circumstances around SaaS, other states have applied existing laws to SaaS, sometimes with unpredictable results.
In which states is SaaS taxable?
The chart below details states where SaaS is and is not taxable along with a source from the state’s department of revenue or code of laws.
As always, keep in mind that each state might define SaaS differently and these laws are changing rapidly.
We recommend speaking with a SaLT about your specific SaaS taxability use case.
(Some of our sources link to pages full of legalese. To find the relevant portions on SaaS, search for “software,” “electronic” or variations of the word “compute.”)