Colorado: Electronically delivered software, SaaS, and backup service not subject to sales tax

The Colorado Department of Revenue issued a private letter ruling to a taxpayer that provided various software products and related services to customers in the state. The taxpayer provided software on a subscription basis and delivered it via web-based application and via electronic download. Under Colorado law, sales and use tax is imposed on software that is transferred in a tangible medium. All the taxpayer’s sales, except for a one service, did not involve the transfer of tangible personal property, and the Department concluded that the software sales were nontaxable. The taxpayer also sold subscriptions to an enterprise backup service that backed up its customers critical applications, files, and systems. To provide the service, the taxpayer purchased servers and a web-based application. The backup servers were delivered to the customer’s location, but the taxpayer maintained the servers and controlled access to the contents of the servers. Retrieval requests were submitted to the taxpayer’s staff by customers. Service agreements with customers explicitly stated that the equipment belonged to the taxpayer and that customers had no right to the equipment other than the content contained on them.

Colorado courts have generally held that a transaction in which a seller provides both tangible personal property and nontaxable services or nontaxable property will not be treated as a sale of tangible personal property if the “true object” of the transaction is the nontaxable service or nontaxable property and the use of the tangible personal property is merely incidental to that objective. The Department concluded that the true object of the backup service was the sale of the nontaxable computer software products and related services, not the use of the servers. Therefore, the sale of the backup service was not subject to sales and use tax. Please contact Stephen Metz at 303-382-7177 for more information on Colorado PLR-20-008.