2013-08-08

Co.Labs

Why We’re So Frustrated About The Massachusetts Software Tax

Developers in New England are facing a new tax if they do business inside the Commonwealth. In this article, a Northampton-based web dev shop runs you through the headaches and nuances of this eminently stupid and confusing new embargo.



If you buy or sell software or computer services that are used by anyone in Massachusetts, your life just got a lot harder. The State of Massachusetts has recently increased taxes on gas, cigarettes... and software. This tax applies to all “computer software, including pre-written upgrades, which is not designed and developed by the author.” Vague and scary, right? Well, if you don’t want to be nabbed for tax evasion, here’s what you have to know.

Who Does This Law Affect?

  • Anyone working in the IT industry who sells software or related services to any business that has any office in Massachusetts.
  • Any company that has software “used” in Massachusetts (internal software or external software presumably) and who doesn’t do ALL of their own IT work.

It’s crazy, isn’t it? There’s already a petition on Change.org for repeal, and rumor has it the law will likely be amended, but in the meantime you should pay taxes for worse-case scenario.

When Do I Need To Start Paying?

Immediately. This law went into effect a couple of weeks ago, and so starting July 31st, 2013, any contractors, freelancers or IT shops need to start charging their clients tax if their software is “used” in Massachusetts. If you’re not set up to collect Massachusetts sales tax, you might want to talk to your accountant now.

“I spoke to my representative a little while ago and they confirmed that likely some percentage of work we do would be taxable and some wouldn’t be. I explained that there is no way for our techs to separate out one from the other in our current ticketing system and even if there was, I couldn’t even train them how to do it fast enough.” --Delcie Bean CEO Paragus Strategic IT

This affects a lot of software vendors whose customers use Google Apps; if they have a customer rolling out Google Apps across an industry, and they need help “customizing” or “updating” anything, the freelancers and web design shops that get this cottage industry business will now be taxed.

How Do I Know If Something’s Taxable?

This added levy is not only cumbersome, it’s super confusing. For example:

  • if you install software (Microsoft Office, Constant Contact, Drupal, etc.), it's taxable
  • if your client clicks the mouse to install it, it's not taxable
  • training your client to use this software is not taxable
  • but if you "customize" or configure the software in any way, it's taxable
  • if you don’t actually make any changes, but just discuss them and plan them, it’s consulting and not taxable
  • if you create graphic design mockups, it’s not taxable
  • but as soon as you implement that design (i.e. program it), it becomes taxable if you’re using “prewritten” software “not developed” by you (such as WordPress)

At least, that’s how we think it works. What it definitely means is that IT businesses in Massachusetts are going to take a hit. We’ve got a lot more paperwork and a lot of nuances to work out now; for instance, we lease a server and resell portions of it to our clients. The hosting costs include security patches, so some percentage of our hosting costs is taxable, even “hosting” isn’t taxable and our server isn’t in Massachusetts.

And what do you do if someone prepays for 100 hours of work that has not yet been defined? How much is going to be taxable? It seems you can't accept their money without also collecting sales tax preemptively, regardless of whether sales tax will actually apply. And, according to the Mass Department of Revenue (DOR), you should just overtax instead of undertax if you want to avoid fees. Great.

This hurts small development shops more than anyone. I’m sure the HPs of the world will be fine; big cap companies may have to invest quite a bit in training and accounting because of this, but they also have high-priced lawyers at their disposal who can work out the loopholes. It’s the freelancers and smaller shops who are already paying income tax on their work that will have the biggest increase in their administrative burdens, accounting costs, and liability as a percent of revenue.

And it’s not just Massachusetts developers that have to deal with this. It’s anyone who has clients who have “software” that is being “used” in Massachusetts.

What’s The Exact Wording Of This Pernicious Law?

“... computer software, including prewritten upgrades, which is not designed and developed by the author or other creator to the specifications of a specific purchaser. The combining of two or more prewritten computer software programs or prewritten portions thereof does not cause the combination to be other than prewritten computer software. Prewritten computer software includes software designed and developed by the author or other creator to the specifications of a specific purchaser when it is sold to a person other than the specific purchaser. Where a person modifies or enhances computer software of which the person is not the author or creator, the person shall be deemed to be the author or creator only of such person's modifications or enhancements. …”

Read the full text of the law here.

Is There Anything About This Law That Actually Makes Sense?

“My accountant is tying himself in knots trying to differentiate between ‘prewritten software’ and ‘custom software.’ Is an Access database taxable? Is a MySQL database?” --Don Lesser, Pioneer Training, Inc.

As my colleague Don told me in the quote above, it will fall on our operations people to figure out how to interpret this law. We’re getting very little guidance from the people who made it.

Massachusetts lawmakers have created an FAQ which answers some of the larger questions. But unfortunately, the examples about how “Floppy Disc Co.” can navigate the laws (that’s the name of the hypothetical company, I kid you not) barely scratch the surface. We’ve created a flow chart for our clients to help them understand how this law will affect them, and we’ll keep it as up to date as we can. Here’s what (we think) we know:

  • No tax for hosting.
  • It doesn’t matter where you host the information. If the business you’re working for has offices in Massachusetts, you have to collect tax.
  • Any work before 7/31/2013 is exempt.
  • Any work contracted AND paid before 7/31/2013 is exempt regardless of whether the work has been completed.
  • “Generally” troubleshooting or reinstalling existing software isn’t taxable, but if you add any new hardware or software your time is taxable.
  • For clients with multiple locations, your clients can get an MPU certificate. Once they have that, you don’t have to charge them sales tax–instead, they are responsible for their own “Massachusetts portion of the use” and for filing a Massachusetts tax return.
  • All sub-contractors must charge you tax and you must pass that tax on to your customers. No more burying the cost of subs in your overall project cost.
  • Accountants and attorneys who use open-source or off-the-shelf software to generate tax returns or prepare documents are exempt, as is the Commonwealth of Massachusetts and the U.S. government.
  • Patches and installing anti-virus software are taxable.
  • If you’re based in Massachusetts and you’re working with out-of-state clients they’re exempt UNLESS they come to your office for services in which case some (all?) of your services are taxable.
  • 501(c)(3) nonprofits are exempt from the tax as long as they are registered with Massachusetts and have been provided an ST-5 form from the DOR.
  • If you offer a combined (taxable and non-taxable) set of services to a client, and 10% or less of the work is taxable, you are not required to collect sales tax for that total amount of work. Though this is dependant on the state’s definition of “inconsequential” serving “only as a guideline, and varies depending on the facts and circumstances of the transaction.” (See this page for more details.)

Where Can I Find Out More?

Educate yourself on the available documentation:
DOR’s TIR
What does the new bill mean to employers?
DOR’s FAQ

Whose Brilliant Idea Was This?

I think Bill Wilder from Coding Out Loud explained it best:

I heard back from Representative (Denise) Garlick. She’s concerned and seems her understanding of the law as written may differ from DOR interpretation. Here’s an excerpt from her email:

My understanding as I voted (Massachusetts House of Representatives) is that this proposal does not tax: Custom built computer software, data recovery services, website design, “the cloud,” or access to software hosted on a third party server.

Further, the computer services tax included in this plan does not tax: Downloaded music, books or games.

Additionally, this tax does not extend to many consumer computer services including technical support, removing software from a computer (for example, removing malware or a virus), or running diagnostics.


I think “custom built computer software” and “website design” appear (in my interpretation) to be covered as taxable in the DOR FAQ, but this contrary to Representative Garlick’s expectations when she voted for it.”

According to State Senator Stan Rosenberg (current Senate Majority Leader, and the next Senate President) the proposal came from Deval Patrick’s office and was driven by the Department of Revenue and rubber-stamped by the majority of the state legislature (35-5 and 123-33).

The implementation of tax laws rest with the Department of Revenue. They did not raise the questions being raised by the industry and their opinions drove the process. The Legislature followed the lead of the administration as it was their proposal and the Legislature believed they could implement the new tax based on the information provided by Patrick’s administration.

It is the job of the Administration to set up the rules and regulations to implement the new tax law. If they are having problems implementing it they will have to come back with recommended clarifications.

This law was finalized about a week before its implementation and it shows.

What Can I Do To Fight This?

If you’re feeling perturbed, here are some things you can do:

  1. Sign this petition.
  2. Be sure to provide feedback to the people who are defining these policies and who are interpreting the law. It’s definitely worth sending them ANY fringe case you can think of to help them further define the law. The more fringe cases they have the better chance they’ll “do the right thing.”
  3. Call the DOR at (617-887-MDOR) and let them know what you think.
  4. Representative Jim Lyons (of Andover Ma) seems to be the sole voice of reason in the Mass Senate. He’s fighting this tooth and nail. Give him some love and offer your help. Email: James.Lyons@mahouse.gov
    Facebook
    Twitter
  5. If you live or have offices in the state of Massachusetts definitely let your legislators know that you don’t approve that they rubber-stamped this.
  6. If you just feel like bitching, here are a few people you might want to talk to, not surprisingly we couldn’t find any of them on Twitter, and most don’t even appear to get “The Facebook”:
Further Reading

Read this great analogy if this same law was passed for plumbers which shows why it’s such a burden on developers.

See the complete law on the official Massachusetts page. They also have an FAQ, which is moderately helpful.

[Image: Wikimedia]




Add New Comment

34 Comments

  • Mike.

    Am I missing something or aren't we already being taxed on income from time spent providing services?  A.k.a. business income and/or personal income taxes?  
    If so, why not just add another 5% to state income taxes for IT workers?  It would be easier to administer and would neatly highlight the extra help that IT workers are providing to the Party.

  • Mike.

    Am I missing something or aren't we already being taxed on income from time spent providing services?  A.k.a. business income and/or personal income taxes?  
    If so, why not just add another 5% to state income taxes for IT workers?  It would be easier to administer and would highlight the extra help IT workers are providing to the Party.

  • Brian Sanders

    Senator Brewer was one of the main proponents of the new Mass software/IT tax. Please contact his office ((617) 722-1540) and post a message to his Facebook page (https://www.facebook.com/Senat... to let him know what you think of the tax, and to encourage him to change his position and work to repeal it.

  • Brian Sanders

    Senator Brewer was one of the main proponents of the new Mass software/IT tax. Please contact his office ((617) 722-1540) and post a message to his Facebook page (https://www.facebook.com/Senat... to let him know what you think of the tax, and to encourage him to change his position and work to repeal it.

  • George Palmer

    Ignorance continues to be very Blissful for those who cast their Ballots for these Socialists that in the end want 100% taxation. It will NEVER EVER BE ENOUGH! Why? vote buying and keeping the bottom 30% employed in Government will always grow requiring more and more and more Money. With so few really contributing anything the day will come when they say "Enough" and flea their state or country just as we see the Top 25% of Doctors bailing out vs becoming a glorified bus driver. Cannot blame them. The smartest of the smart are not wanted in this country so we import @#$%!@#. 
    Anyway, good luck Masachusett's you elected them so pay up! No whining about it No matter how stupid it is. Don't like it? makes no sense ? 

  • Tom McCracken

    We have something equally moronic going on in Texas. Custom programming is not taxable (programming services provided on software you did not sell). Data processing, e.g. Word Processing, inputting data, creating punch cards (yes the law is that old) is taxable.

    Since creating simple HTML pages is like Word Processing, then web page creation became taxable. Now the comptroller is using the data processing rule to make anything that renders in a browser or uses web technologies as taxable. Given the modern trend towards internet based cloud applications and the proliferation of XML/JSON APIs, effectively this make the majority of software development taxable as data processing in the eyes of the comptroller.

    It is unbelievable. The state cannot give a clear answer on what is the difference between custom programming and data processing. So the answer that comes down from above is that everything is taxable and some how small business should know this when the comptrollers own auditors can't understand or explain the regs.

    I already know of several firms who have had to leave the state because of aggressive audits. Moronic. Completely moronic.

  • mikbe

    Here's a great idea to fight this idiotic tax: have your software disable itself if it determines it's in Massachusetts. When lawmakers are unable to use any software on their iPhones they'll get the hint.

  • DevVendor

    Out of state vendors are off the hook according to http://www.mass.gov/dor/docs/d... FAQ #32. I am an IT vendor based out of New Hampshire with many Massachusetts clients. Am I required to collect this new Massachusetts tax (in TIR 13-10) from my Massachusetts clients?

    A. Under current law, whether or not a vendor is required to collect Massachusetts sales tax depends on whether the vendor has or exercises some form of physical presence in Massachusetts. This is the same longstanding rule that applies to sellers of tangible personal property. Physical presence could include, for example, having a business location such as an office in Massachusetts or visiting customer facilities in in Massachusetts for sales purposes or to perform services. If the vendor has such physical presence, it should register as a Massachusetts vendor as described in FAQ # 27. If it does not have physical presence in Massachusetts, its Massachusetts customers will be required to self-report and pay use tax on their purchases of taxable goods and services.

  • Mike Goldbaum

    What's this going to do for CDN oriented companies that both host and serve? Wouldn't that create a redundancy?

    Would that mean sites would be taxed both for an origin DNS service as well as each and every content-delivery server, located throughout the world?

    Imagine having to pay a tax on both a localhost and every proxyhost. :'(

    If that's the case, bye bye Akamai!

  • Rich K

    I can't help but laugh at all you SMART guys who live and work in a state that is bound and determined to crush you every chance they get. You all deserve each other.

  • ElrondPA

    Any developer without a physical presence in Massachusetts doesn't have to collect/pay this tax, though presumably their customers would be responsible to pay the equivalent use tax. But DOR defines "presence" broadly; the FAQ says, "Physical presence could include, for example, having a business location such as an office in Massachusetts or visiting customer facilities in in Massachusetts for sales purposes or to perform services." So if you're out of state and do everything remotely, you're fine; but don't visit the customer's site under any circumstances, or you're sucked into the maw of the omnivorous beast.

  • NotFromHavana

    I think there are some Nexus issues you may not have taken into account.  The courts have held that states may not compel sales tax collections on companies that do not have a physical presence in a state (Nexus).  It's that constitutional interstate commerce clause stuff.  I think that if you do not have a physicals presence in Mass., they are kind of screwed trying to make your collect and submit taxes.  They can mess with your customers on use tax grounds.  I realize states (especially failing blue states) are working very hard to get around this,  but I think if you and your company stay out of the state and only send things via common carrier, Mass. can be told to pound sand. Check with your tax adviser.

  • Timothy W. Crane

    Its nice to know that some bean counter in the basement of MA revenue took the time to type up such a modern and technology spurring bill in LotusNotes, saved it to floppy, passed it to be printed and scanned, allso that it could be faxed to the floor for a vocal vote.

    I am not from MA, but I can see that it is  bad for business. This has to be inspired by something personal for the sponsors. It is based on bad third grade business planning.

  • Jeff Crump

    This tax is repulsive and anti-growth, but to be clear, Constant Contact is not "installed", it is a website (cloud) offering.   So it's not taxable, at least according to a reasonable reading of this law. I don't think CTCT customers should be concerned.

  • geoffrobinson

    People on the left-end of the poltical spectrum tend to understand conservative/libertarian arguments against high taxation when what's being taxed is something they are familiar with and an industry they work in. Hollywood movie productions, craft beer, and I guess we can add software development to that list.

    I hear Texas is pretty friendly.

  • Dusty Thompson

    Is tyranny any more obvious than the modern "Blue Democrat" progressive has forced upon us all?

    These people are Americas enemy.

  • Hugh Giblin

    Every CPA in MA is going to go nuts trying to complete a correct business filing next tax season. Intuit should just open up a phone line for MA CPAs who are going nuts trying to figure this out. And coding Intuit's software to correctly handle this... I don't envy the coders.

  • tonymarini

    The problem isn't the law, the problem is the folks who keep voting in the morons who would create such a law in the first place. But such is the burden in a deep blue state like Massachusetts where the citizens are considered more revenue sources than human by their legislatures. This is a "3 P's" law...punitive, petty and peevish, and for added giggles it sounds like payback for a slight done to some elected official/legislator by someone in the software industry. Which leads one to wonder...what's next? Architect tax? Hardware developer tax? EMI compliance tax? Technical computer user tax?? Maybe it's time to lobby for a lawyer's tax!??! Or an accountant's tax. Or better still, a LEGISLATOR'S TAX!!! If these craven, anti-business, anti-success parasitic dolts were similarly (mirror) taxed, then the specter of new or ambiguous taxes like the one in question would be carefully implemented or not considered. Until that day comes, we need to be represented by folks who advocate for us and who will not capriciously tax us for fear that we will organize and "retire" them at the ballot box.