Dark Tax Storms are Growing for the Internet Cloud

Tax Professionals' Resource
November 5, 2012 — 1,096 views  
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Dark Tax Storms are Growing for the Internet Cloud

The Internet cloud has reshaped how business gets done, moving collaboration, services and even product into services connected to users via the Internet. The benefits include flexibility, scalable resources, cheaper delivery of software and storage to multiple users and ease of design. However, with all those benefits comes the potential of business tax liability as well. While governments are slow to realize new ways of doing business, eventually they catch up especially when it has the potential to be taxed.

The problem with the Internet cloud, however, is how to tax it. At the federal level the U.S. government has stayed away from the issue, not being interested in lighting a firestorm in 2012 at a time when the general economy needs to get healthy again.

However, state governments are not so altruistic. Many states are technically bankrupt coming out of the 2008 recession and are looking for every new way to generate revenue. The fact that a lot of business happens on the Internet with out-of-state businesses burns tempers when local businesses have to pay various state taxes. So the reaction to new taxation is not as resistant, especially when those who pay the most may be from out of town.

Generally, sales tax tends to be the vehicle by which state government raise revenues off businesses. Income taxes apply as well, but those dollars only apply to businesses within a state’s borders. So sales tax tends to capture more, depending where the business has occurred. Sales tax generally can’t be applied where the business exists out of state. Only the buyer can be charged which is referred to instead as “use” tax. It results in the same revenue but it’s far harder for a state to collect. Use tax revenue rely on buyers openly reporting their purchases from out-of-state, which many consumers don’t.

So, states started created a new argument to go after businesses on the cloud: the substantial presence nexus (http://www.wbur.org/2012/08/23/taxing-cloud-computing). Where software, goods or services are brought into the state, either by download or physical transfer, the business can then be charged sales tax. Where the software, goods or service exist or get stored out-of-state, there’s no nexus so no sales taxes apply. Where a service has no charge, neither condition matters because there is nothing to tax. Half of the nation’s states have jumped into this arena in the last three years (http://www.networkworld.com/news/2012/032812-cloud-tax-257744.html).

The state-level tax trend isn’t likely to go away, which means cloud use is going to become more costly over the next five to ten years. However, using the cloud remains far cheaper operationally, even with sales taxes added into the mix.

 

Tax Professionals' Resource