Sales and Use Taxes
Computer and Data Processing Services
A company located in Connecticut (the "Company") has developed computer software that permits its customers, motor vehicle leasing companies licensed as such by the Connecticut Department of Motor Vehicles ("DMV"), to access the DMV computer through their computers and modems. Through the Company's on-line system, the customers may (i) file applications to register motor vehicles or to renew, transfer or cancel registrations with the DMV on their personal computers, without filing any paper forms, and (ii) make inquiries in the database on the DMV computer, such as about the status of vehicle registrations or property tax liability. The Company does not maintain its own database for the customers.
All applications and inquiries must be transmitted through the Company's computer, which checks that the security requirements have been met, "purifies" the customers' transmissions (removing any interference that may have contaminated the transmissions) and compresses the transmissions so that more data may be sent on to the DMV in less time over a rapid pulse dedicated line. The DMV computer transmits its responses over the high speed dedicated line back to the Company's computer, which decompresses the information and transmits it at regular modem speeds back to the appropriate customer. As participants in the Company's on-line system, each customer maintains an inventory of license plates, emissions stickers and registration stickers which it issues upon receiving notice over the system of DMV approval.
The Company charges a one-time base fee when a customer contracts with it to gain access to the on-line system, which also entitles the customer to one year of software product support. In addition, the Company offers optional telephone or on-site support services for additional charges. The Company charges its own set fees in addition to the DMV fees for each inquiry or registration filing.
The software provided by the Company, which is needed to permit the Company's customers to gain access to the on-line system, requires little modification to be usable by the customers. During the installation of the software onto its customers' personal computers by Company personnel, some adaptations are made to make the software work on each particular customer's hardware and to meet DMV security requirements.
The Company developed its software pursuant to an agreement between the DMV and a non-profit association representing the motor vehicle leasing industry in Connecticut (the "Association"). The agreement with the DMV provided that the Association would develop a system permitting applications for motor vehicle registrations to be made on-line through computers. The Association subcontracted with the Company for the development, installation and servicing of the software needed to operate such a system. Pursuant to the contract between the Association and the Company, the Association is to be paid a set percentage of the revenues from the transaction fees charged by the Company to its customers (the "revenue sharing agreement").
Whether the Company's service, by which its customers gain direct access to the DMV computer in order to file applications to register motor vehicles, or to renew, transfer or cancel registrations, is taxable as a computer and data processing service under Conn. Gen. Stat. §12-407(2)(i)(A).
Whether the Company's service, by which its customers gain direct access to the DMV computer in order to make inquiries regarding motor vehicle registrations or property tax liability on the DMV database, is taxable as a computer and data processing service under Conn. Gen. Stat. §12-407(2)(i)(A).
Whether the base fee charged by the Company at the inception of its contract with the customers, for which the customers receive a license to use the software developed by the Company allowing them access to the on-line system, is subject to sales and use taxes.
Whether the optional software support services provided by the Company are taxable as computer and data processing services under Conn. Gen. Stat. §12-407(2)(i)(A).
Whether the payments made under the revenue sharing agreement made by the Company to the Association are taxable as computer and data processing services under Conn. Gen. Stat. §12-407(2)(i)(A).
Conn. Gen. Stat. §12-407(2)(i)(A) includes in the definition of "sale" and "selling" the rendering of computer and data processing services, including but not limited to time. Conn. Agencies Regs. §12-426-27(b)(1) defines such services as including, among others, "providing computer time, storing and filing of information, [and] retrieving or providing access to information."
In determining whether the Company's services are taxable as computer and data processing services, an analysis must be made as to whether the true object of the contract is computer and data processing services. Hartford Parkview Associates Limited Partnership v. Groppo, 211 Conn. 246, 558 A.2d 993 (1989); see also Cummings & Lockwood v. Commissioner of Revenue Services, Super. Ct., No. CV 92-0510759 S (July 20, 1994); Ruling No. 93-6, 93-8, 93-11, 94-2 and 94-15. In determining whether the "true object" standard articulated in Hartford Parkview has been met with respect to computer services, it is not enough that computer equipment is employed by the Company in transmitting, and by the subscribers in receiving, the information. 211 Conn. at 250. Instead, the use of the computer must be found to be essential to the provision of the service, and not "merely incidental" to it. 211 Conn. at 253.
When a customer files a form or makes inquiries through the Company's on-line system, there are actually two different transactions taking place simultaneously. One transaction is between the customer and the DMV, with the Company acting as an agent to collect and remit any DMV fees incurred in the transaction. The second transaction is between the customer and the Company, in which the customer uses the software provided by the Company to gain access to the on-line system to file registration, transfer or cancellation forms and to make inquiries, paying a fee set by the Company for such use. Therefore, in considering whether the true object of the transaction is computer and data processing services, it must be understood that the transaction to be analyzed is the one between the Company and its customers.
Electronic Filing and On-Line Inquiries: The Company provides its customers with a medium by which they gain direct and immediate access through their computers to the DMV computer, giving the customers the ability to file paperless applications for registrations, transfers or cancellations of motor vehicle registrations and to make on-line inquiries about registrations and property tax liability. In Ruling No. 91-11, the service provider requested driving records from the Department of Motor Vehicles ("DMV") on behalf of the service provider's customers. The requests were transmitted to the DMV on magnetic tape on a daily basis, and the responses were received by the service provider on magnetic tape on the next day. The service provider would then either electronically transmit the records to its customers' computers or mail the records in hard copy to its customers. The Department's conclusion in Ruling No. 91-11 was that the use of a computer by the service provider, while helpful, was not essential to the provision of the service of providing driving records to its customers. See also Ruling No. 93-6.
In the instant case, unlike the facts in Ruling No. 91-11, the Company provides its customers with immediate access to the DMV's computer from the customers' own personal computers. If it were not for the Company's services, its customers would have to travel to the DMV office in person and stand in line in order to file registrations or make inquiries, or else hire a "runner" to do so, but the customers still would not be able to be issued registrations, transfers or cancellations or have their inquiries answered as quickly as is possible through the Company's services. The true object of the customers in contracting with the Company is to gain the convenience, speed and accuracy possible only through immediate access to the DMV's computer, which is possible at this time only through the services of an intermediary such as the Company. This ability, rather than being "merely incidental" to the service, is the very reason the customers choose to avail themselves of the Company's on-line inquiry services. Such services constitute taxable computer and data processing services.
In the portion of Ruling No. 93-11 that was not modified by Ruling No. 95-1, the service provider provided a medium by which its customers, persons offering auto parts for sale and persons seeking particular parts to buy, could locate each other via a computer link. Like the Company in the instant case, the service provider in Ruling No. 93-11 did not itself collect information but acted as a link for its customers to both input and access information on a continually updated database. The sales and use taxes consequences are the same even if a service provider, like the Company, only provides on-line access to information on a database maintained by a third party.
Base Fee: The software provided by the Company to its customers is prewritten (or "canned") software, because it was created for a general class of users and needs little if any modification to run on a customer's personal computer. The Company's personnel adapt the software during the process of installing it onto a customer's personal computer, by "matching" the software to the customer's hardware so it will run smoothly and ensuring that the DMV security requirements are met. This type of adaptation (also known in the industry as "tweaking") falls short of customization. Software customization, as referred to in Ruling No. 93-1, requires more substantial modifications to the functions or purpose of the program, with the result being that the software has been customized to such a degree that it bears little resemblance to any but the most basic functions of the prewritten software on which it was based. Prewritten software is tangible personal property, the sale, lease or licensing of which is taxable as the sale of tangible personal property. (See Ruling No. 93-1.) Therefore, the base fee paid at the inception of a contract between the Company and its customer is taxable because it represents the consideration for the licensing of tangible personal property.
Support Services: As defined in Conn. Agencies Regs. §12-426-27(b)(1), "computer and data processing services" include, among other services, "designing, implementing or converting systems, [and] providing consulting services." Such services therefore include services offered by a service provider to assist its customers in availing themselves of its computer and data processing services (see Ruling No. 93-1), and the Company's charges for its optional software support services, whether provided over the telephone or performed on-site, are taxable as computer and data processing services.
Revenue Sharing Agreement: On the other hand, the true object of the revenue sharing agreement between the Company and the Association is the acquisition by the Company of the right to operate the on-line system under the Association's contract with the DMV. Such a right is intangible personal property, the sale of which is not taxable.
Sourcing: In Connecticut, computer and data processing services are deemed taxable at the location where they are delivered or intended for use. See Ruling Nos. 93-1, 93-8, 93-11 and 93-15; also see Conn. Agencies Regs. §12-426-27(d), which provides that computer and data processing services are taxable if delivered to or intended for use in Connecticut. Therefore, the Company's inquiry fees are taxable when provided to customers making inquiries from computers located in Connecticut.
Tax is imposed by Conn. Gen. Stat. §12-408(1) on "the privilege of making any sales as defined in [Conn. Gen. Stat. §12-407(2)], at retail, in this state ..." Therefore, the Company's base fee is taxable when possession of its software passes to its customers within Connecticut.
The services rendered by the Company in which it provides a means for its customers to file forms electronically directly onto the DMV computer and to retrieve or be provided access to information on the DMV computer are taxable as computer and data processing services under Conn. Gen. Stat. §12-407(2)(i)(A) when such services are provided to customers making inquiries from computers located in Connecticut.
The base fee charged by the Company at the inception of the contract with its customers is a charge for the sale, lease or license of canned software. As such, the base fee is taxable as being for the sale of tangible personal property under Conn. Gen. Stat. §12-407(2) when possession of the software under the licensing agreement passes in Connecticut.
The fees charged by the Company for its optional software support services are taxable as computer and data processing services under Conn. Gen. Stat. §12-407(2)(i)(A).
The "revenue sharing" payments made by the Company to the Association are consideration for the right to operate an on-line system under the Association's contract with the DMV. As such, the payments are not taxable because they are consideration for intangible personal property.
January 31, 1995