Faced with a significant budget deficit, the City of Chicago is taking aggressive steps to broaden its tax base - and this time it is looking to the Cloud. Chicago’s Department of Finance, recently issued Personal Property Lease Transaction Tax Ruling #12, which broadly imposes Chicago’s Personal Property Lease Transaction Tax (“Lease Transaction Tax”) on a host of cloud based services, effective January 1, 2016. The City of Chicago’s application of the Lease Transaction Tax to cloud services by construing “nonpossessory computer leases,” to encompass such services, goes far beyond what the Lease Transaction Tax was originally intended to tax, that is, traditional “time sharing or time or other use of a computer with other users”.
The Lease Transaction Tax is imposed at a rate of 9% on: (1) the lease or rental in the city of personal property (defined as all property other than real property); or (2) the privilege of using in the city personal property that is leased or rented outside the city. Chi. Muni. Code §§ 3-32-030(A). The term “lease or rental” includes a “non-possessory computer lease,” which is defined as “a non-possessory lease in which the customer obtains access to the provider’s computer and uses the computer and its software to input, modify or retrieve data or information in each case without the intervention (other than de minimis intervention ) of personnel acting on behalf of the provider.” Chi. Muni. Code § 3-32-020(I). “The term "nonpossessory computer lease" includes, but is not limited to, time sharing or time or other use of a computer with other users. In the case of a nonpossessory computer lease, the location of the terminal or other device by which a user accesses the computer shall be deemed to be the place of lease or rental and the place of use of the computer for purposes of the tax imposed by this chapter.” Id.
The Department has interpreted these ordinances and provided the following examples of transactions that are subject to the Lease Transaction Tax on the charges incurred:
to perform legal research or similar online database searches;
to obtain consumer credit reports;
to obtain real estate listing and prices, car prices, stock prices, economic statistics, weather statistics, job listings, resumes, company profiles, consumer profiles, marketing data, and similar information or data that has been compiled, entered and stored on the provider’s computer; and
to perform functions such as word processing, calculations, data processing, tax preparation, spreadsheet preparation, presentations and other applications available to a customer through access to a provider’s computer and its software.These last examples are sometimes referred to cloud computing, cloud services, hosted environment, software as a service, platform as a service, or infrastructure as a service.
Personal Property Lease Transaction Tax Ruling #12, at p. 3 (emphasis added).
The Ruling #12 also appears to narrowly interpret “Exemption 11” provided under Chi. Muni. Code § 3-32-050.A.(11), which provides an exemption for “the nonpossessory lease of a computer in which the customer's use or control of the provider's computer is de minimis and the related charge is predominantly for information transferred to the customer rather than for the customer's use or control of the computer, such as the nonpossessory lease of a computer to receive either current price quotations or other information having a fleeting or transitory character.” The Department has stated that, “as a general rule . . . subscription to an interactive web site will be subject to the lease tax, and will not be exempt, even if most or all of the information available on the website is fleeting or transitory. This would include, for example, a web site that provides financial research, information and analytical tools.”
In addition, the Ruling provides guidance regarding sourcing transactions subject to the Lease Transaction Tax. Chi. Muni. Code § 3-32-020(I) provides that, “[i]n the case of a nonpossessory computer lease, the location of the terminal or other device by which a user accesses the computer shall be deemed to be the place of lease or rental and the place of use of the computer for purposes of the tax imposed.” According to the Rule, the City will use the rules in the Mobile Telecommunications Sourcing Conformity Act, and apply the tax to customers whose residential or primary street address is in Chicago as reflected by their billing address or other reliable information.
The City’s unprecedented move to subject a wide range of cloud based services to the Lease Transaction Tax based on the deemed use of out-of-state servers (hardware and software) physically located outside of Chicago is questionable, especially where any true control of the hardware and/or software is limited (or nonexistent) as in most SaaS models. As the definition of “nonpossessory computer lease,” makes clear, the original intent of the Lease Transaction Tax was to tax traditional “time sharing or time or other use of a computer with other users”. Ruling # 12 once again demonstrates that when laws lag behind the technology, state and local taxing authorities, will take interpretive liberties in applying their existing tax laws to emerging technologies.
Finally, it should be noted that in an effort to appease the business community, Chicago Mayor Rahm Emanuel has recently proposed an amendment to the personal property lease transaction (“lease transaction”) tax ordinance that would: (1) add a narrowly defined exemption for small businesses; (2) reduce the rate for cloud-based services where the customer accesses its own data; and (3) codify the applicability of the Illinois mobile telecom sourcing rules. See FY 2016 Revenue Ordinance, Article I. This ordinance was approved by the Chicago City Council. Unfortunately, these proposals will do little to alleviate the tax burden on the vast majority of businesses that will be affected by Ruling #12.
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Other recent “Cloud, Software & Digital Tax” posts by Carolynn Iafrate Kranz:
- SaaS Characterized as Taxable Telecommunications Service
- Pennsylvania Tax on Software Support Services: Ruling Re-issued
- Illinois Finally Rules on SaaS
- Tennessee’s Situsing of Accessed Software Runs Afoul
- Chicago Taxes the Cloud