SC REVENUE RULING #93-4
SUBJECT: Charges for Maintenance or Support of Computer Software
(Sales and Use Tax)
TAX ANALYST: Steve C. Hallman
EFFECTIVE DATE: April 1, 1993
REFERENCE: S.C. Code Ann. Section 12-36-90 (Supp. 1992)
S.C. Code Ann. Section 12-36-130 (Supp. 1992)
S.C. Code Ann. Section 12-36-910(A) (Supp. 1992)
S.C. Code Ann. Section 12-36-1310(A) (Supp. 1992)
Regulation 117-174.48
Regulation 117-174.262
AUTHORITY: S.C. Code Ann. Section 12-4-320 (Supp. 1992)
SC Revenue Procedure #87-3
SCOPE: A Revenue Ruling is the Commission's official
interpretation of how tax law is to be applied
to a specific set of facts. A Revenue Ruling is
public information and remains a permanent
document until superseded by a Regulation or is
rescinded by a subsequent Revenue Ruling.
Question:
Are charges for maintenance or support of computer software subject to the
sales or use taxes?
Facts:
Frequently, when computer software is purchased or a license to use
software is granted, the purchasers or licensees enter into agreements for
the maintenance or support of the software. These agreements generally
entitle the purchasers or licensees to one or more of the following
benefits:
1. Telephone assistance on standby or during certain hours.
2. Updated or new versions of the software as they become available.
3. Coding or modifications to fit specific hardware needs.
4. Debugging of programs or correction of errors.
5. Training concerning use of the software.
6. Installation of the software.
In addition to the various benefits that may be available through software
maintenance or support agreements, diverse conditions exist in conjunction
with the terms of these agreements. For instance, some agreements are
entered into when the software is purchased or a license to use is granted
and others are entered into some later time; some agreements are optional
while other agreements are mandatory; etc.
As a result of the diversity of benefits, conditions and terms associated
with computer software maintenance or support agreements, there is some
confusion as to whether the charges for these agreements are subject to the
sales or use taxes.
Discussion:
Before we can discuss whether computer software maintenance contracts are
subject to tax, we need to understand why sales of computer software are
subject to tax.
Computer Software
Code Section 12-36-910(A) states:
A sales tax, equal to five percent of the gross proceeds of
sales, is imposed upon every person engaged or continuing within
this State in the business of selling tangible personal property
at retail. (Emphasis added.)
Code Section 12-36-1310(A) reads:
A use tax is imposed on the storage, use, or other consumption
in this State of tangible personal property purchased at retail
for storage, use, or other consumption in this State, at the
rate of five percent of the sales price of the property,
regardless of whether the retailer is or is not engaged in
business in this State. (Emphasis added.)
In Citizens and Southern Systems, Inc. v. South Carolina Tax Commission,
280 S.C. 138, 311 S.E.2d 717 (1984), the Supreme Court of South Carolina
determined that computer software sold and delivered to the purchaser by
means of magnetic tape was tangible personal property and subject to the
State's sales and use taxes.
Regulation 117-174.262, "Automatic Data Processing Equipment and Programs"
states, in part:
* * * *
Prewritten Programs - The tax applies to total charges for
coding, punching or otherwise reproducing prewritten programs
including charges for the tapes or other properties when
furnished by the seller or producer.
The temporary transfer of possession of a program for a
consideration for the purpose of direct use by the customer or
to be reproduced by the customer on or into tapes or other
properties is a lease of tangible personal property subject to
the tax on the total amount paid even though the consideration
may be labeled a license fee or royalty payment; and even though
royalty payments or payments for a license to use may be paid
long after the original programs are returned to the seller.
Custom Programs - Custom programs are programs prepared to the
special order of a customer, the gross proceeds therefrom being
subject to the tax. Also considered to be custom programs are
sales of programs developed through modification of existing
prewritten programs to meet a customer's specific needs. Charges
to modify and adapt these programs to a customer's equipment
(including testing) or translating a program to a language
compatible with a customer's equipment are services that are a
part of the sale price of tangible personal property and
likewise subject to the tax.
In summary, computer software sold and delivered to a purchaser in a
tangible form, such as by magnetic tape or on a disk, is a sale subject to
the sales or use tax.
Charges for Maintenance Contracts Made in Conjunction
With the Sale of Computer Software
Having established that the sale or purchase of computer software is
subject to the sales or use tax, we must next examine whether charges
associated with the acquisition of software are taxable (i.e. maintenance
agreements).
The sales tax is imposed upon a retailer's "gross proceeds of sales" which
is defined at Code Section 12-36-90, in part, as:
...the value proceeding or accruing from the sale, lease, or
rental of tangible personal property... without any deduction
for... the cost of materials, labor, or service... [or] any
other expenses....
The use tax is based upon the "sales price" of tangible personal property.
The term "sales price" is defined at Code Section 12-36-130, in part, as:
...the total amount for which tangible personal property is
sold, without any deduction for the cost of the property sold,
the cost of the materials used, labor or service cost, interest
paid, losses, or any other expenses.
(1) The term includes:
(a) any services or transportation costs that are a part
of the sale, whether paid in money or otherwise;...
In Meyers Arnold, Inc. v. South Carolina Tax Commission, 285 S.C. 303, 328
S.E.2d 920, 923 (1985), the Court of Appeals of South Carolina held the
element of service involved in a lay away sale was subject to tax as being
part of the sale of tangible personal property. The test used by the court
was as follows:
...But for the lay away sales, Meyers Arnold would not receive
the lay away fees. The fees are obviously charged for the
service rendered in making lay away sales. For these reasons,
this court holds the lay away fees are part of the gross
proceeds and subject to the sales tax. Accordingly, the total
amount charged in conjunction with the sale or purchase of
tangible personal property is subject to the tax....(Emphasis
added.)
A similar conclusion was reached in Regency Towers Association, Inc. v.
South Carolina Tax Commission, 88-CP-26-1109 (1989), where the Horry County
Court of Common Pleas held charges for maid service were not deductible
from gross proceeds derived from charges for accommodations. More recently,
in Commission Decision #92-37, the Commission held that charges for maid
services, which were optional, were a part of the accommodations furnished
to transients and therefore subject to the accommodations tax.
In Commission Decision #90-38, the Commission held that charges for
engraving services, even though optional, were a part of the sale of
plaques and trophies by the retailer and includible in gross proceeds of
sales. The decision states, in part:
...We find and conclude that here the "engraving charges" are
part of the sale of tangible personal property since the
customer is not seeking a professional service but is seeking an
engraved trophy or plaque....
* * * *
...The Courts have held that although the amount of materials
used may be inconsequential with respect to the labor involved
where the customer seeks to purchase custom made or designed
tangible personal property, the artistic skill of the craftsman
is a part of the sales price of the product and is inextricably
linked....
In addition, Regulation 117-174.48, entitled "Warranties", provides further
guidance and reads, in part:
On all sales of tangible personal property which include a
charge for warranty which is a part of the sales price of the
property, such warranty charges are to be included in the
measure of the tax, even though said warranty charges may be
billed separately from the price of the merchandise.
Warranty contracts entered into subsequent to the sale of
tangible personal property and which are separate and distinct
from the sale, and for which a separate and distinct charge is
made are not to be included in the measure of the tax....
In summary, charges for maintenance agreements (whether optional or
mandatory) that are made in conjunction with, or as part of the sale of,
computer software are includable in "gross proceeds of sales" or "sales
price", and, therefore, subject to the tax.
Maintenance Contracts Not Sold in Conjunction
with Computer Software
The above discussion concerns maintenance contracts that are sold in
conjunction with the sale of software. However, we must also consider sales
of maintenance contracts that are not made in conjunction with the sale of
software (e.g. contracts sold by a third party and contracts sold at a
later date). In such cases the question often arises as to whether one is
selling a service or tangible personal property. Typically, such contracts
provide software updates, technical support, on-site modifications, etc.
In Commission Decision 89-1, the Commission considered whether charges for
a digital data tape, which when applied to the appropriate computer system
would produce maps, were subject to use tax. In reaching its conclusion
that the charges were subject to tax, the Commission stated:
...Here the facts demonstrate that the true object of the
subject transaction was to obtain the digital data tape and base
maps both of which are tangible personal property....
In Richland County v. South Carolina Tax Commission, 82-CP-40-2143 (1983),
the Richland County Court of Common Pleas held that tax map sheets made and
delivered by a third party did not represent a personal service
transaction, but were the "saleable product" of the third party's skill and
therefore subject to the use tax.
In summary, if the true object of a particular transaction is to acquire or
to use tangible personal property, the transaction is subject to tax. The
measure of the tax being the entire amount charged for the contract. If the
true object of a particular transaction is to acquire a service, as opposed
to tangible personal property, the transaction is not subject to tax.
Conclusions:
CONTRACTS SOLD IN CONJUNCTION WITH THE SALE OF SOFTWARE
Maintenance contracts (whether optional or mandatory) sold in conjunction
with the sale of computer software are includible in the measure of the
sales or use tax. It is irrelevant whether the maintenance contract is for
tangible personal property, services, or both.
CONTRACTS THAT ARE NOT SOLD IN CONJUNCTION
WITH THE SALE OF SOFTWARE
Maintenance contracts that are not sold in conjunction with the sale of
computer software may or may not be subject to the sales or use tax.
In determining whether or not a contract is taxable, the true object of the
contract must be established. If the true object of a contract is to
acquire tangible personal property (e.g. software updates), the total
charges for the contract are taxable, even though certain services are also
provided. If the true object is to acquire services (e.g. telephone
assistance), then the total charges are not taxable, even though certain
tangible personal property is also provided.
An Example of When the True Object of a Contract is the Sale of Tangible
Personal Property:
The true object of a particular contract is to sell software, and the
transaction is subject to tax, where:
1. the contract provides for the purchaser to receive software
updates;
2. there is no additional charge to the customer for the updates; and
3. the original software is obsolete without the updates (e.g. an
income tax preparation program).
While a contract is taxable if all the above are met, absence of one or
more of the criterea does not establish that a contract is for the sale of
services, as opposed to software. In such cases, all the facts and
circumstances should be considered before concluding that a particular
contract is not taxable.
SOUTH CAROLINA TAX COMMISSION
A. Crawford Clarkson, Jr., Chairman
T. R. McConnell, Commissioner
James M. Waddell, Commissioner
Columbia, South Carolina
February 23, 1993
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