Responding to the Michigan Court of Appeals decision in Auto-Owners Insurance Company v. Department of Treasury, the Michigan Department of Treasury issued a notice to taxpayers on January 6 clarifying that cloud software that remains subject to a vendor’s ownership and control is not subject to use tax in Michigan.
In Auto-Owners, Auto-Owners Insurance used third-party software to, among other things, conduct legal research. However, Auto-Owners did not own the code it accessed via the vendor’s website, and the vendor retained control to maintain and update the code as it saw fit. Under these circumstances, the court held that the vendor never delivered any computer software to Auto-Owners; Auto-Owners did not use tangible personal property under the Michigan tax statute; and, therefore, Auto-Owners was not subject to use tax for its use of the vendor’s service.
Moreover, even where a separate vendor delivered some software to Auto-Owners, the court held that the delivered software was incidental to the provision of the vendor’s services and not taxable. In this case, the vendor required the installation of a desktop agent program on each computer that accessed the vendor’s network and features. Because Auto-Owners contracted with the vendor primarily to receive professional services, the delivery of the desktop agent software was merely incidental to the vendor’s services. The court based its decision in-part on the fact that Auto-Owners could not “purchase the software or other tangible personal property independent of the services, and the services gave value to the software and other tangible personal property.”
The Michigan Department of Treasury’s notice to taxpayers clarifies that its previous interpretation that access to software over the Internet without delivery of the code that enables the program is taxable does not conform with Auto-Owners. Additionally, if only part of a software program is electronically delivered to a customer, the notice states that the incidental-to-service test will be applied to determine whether the program is a nontaxable service or the taxable sale of tangible personal property. However, taxpayers should exercise caution in relying on the incidental-to-service test because of its case-by-case nature. Finally, the notice reminds taxpayers that a software program that is electronically downloadable in its entirety is taxable.
Taxpayers may seek a refund of taxes paid for a product falling within the Auto-Owners decision by filing a written refund request with the Department of Treasury. In Michigan, taxpayers generally may seek a refund within four years of the date set for the filing of the return for which a refund is claimed.
If you have any questions concerning your company’s cloud computing software tax exposure, please contact Allison D. Rule at adr@commlawgroup.com.
