Vermont Reverses Course on Cloud Computing

A little over a year ago, we wrote in this space about the State of Vermont’s moratorium on the taxation of cloud computing in the form of software as a service, or SaaS (“pre-written software accessed remotely” in the state’s terminology). The moratorium had been enacted in the wake of outcry from Vermont-based software companies, who objected to assessments for unpaid taxes on SaaS charges going back to 2006, based on a technical bulletin issued by the Department of Taxes in 2010.

At the time the moratorium was passed in 2012, there was some support for permanently exempting SaaS from Vermont’s sales and use tax, and Vermont’s governor had come out in favor of an exemption. A special study committee set up to make recommendations to the legislature on the issue also supported exempting SaaS from taxation. However, legislators were ultimately unable to agree on cuts elsewhere in the budget to make up for loss of anticipated revenue from SaaS taxes. As a result, the moratorium was allowed to expire, meaning that, as of July 1, charges for SaaS are taxable in Vermont. Because the moratorium applied only to taxes on SaaS, its expiration does not affect the tax treatment of other types of cloud computing, such as infrastructure as a service or IaaS.

Because Vermont, like many states, continues to struggle with the application of old definitions to new technology, determining whether a given cloud computing transaction will be taxable under Vermont’s law requires a careful analysis of the individual transaction. The key issues in this determination are whether the object of the transaction can be characterized as a sale of taxable tangible personal property (including software) or whether it is really the sale of a service. If the transaction is a sale of software, it must then be determined whether it is prewritten or custom software. Vermont imposes its sales and use tax on prewritten computer software, whether accessed remotely as is the case with SaaS, downloaded, or purchased on a tangible medium such as a CD. Custom software, designed to the specifications of an individual purchaser, is not taxable. Additionally, while pre-written software is taxable, services are not. Merely using the term “Software as a Service” to describe a cloud computing transaction, however, will not transform the transaction from a sale of software into the sale of a service under Vermont law, since pre-written software is taxable, regardless of how it is accessed. Instead, vendors should determine whether what they are selling is properly characterized as not software at all, but instead is an exempt service such as data processing.

The Vermont Department of Taxes has stated its intention to promulgate formal regulations on the topic of cloud computing, but has in the meantime published an information sheet providing basic guidelines on its taxation. The information sheet includes a number of factors to consider in determining whether Vermont’s sales and use tax applies to a given transaction. Sellers would be wise to consult with their tax counsel regarding the tax and its impact on their businesses.