Massachusetts Changes Income Tax Apportionment Rules And Enacts Sales Tax On Software Services And Computer System Design Services

Boston, MA

Massachusetts Tax Alert

The transportation finance bill recently passed by the Massachusetts Legislature contains a number of significant tax changes.  Most notably, it broadens the sales tax to apply to certain computer and software services, and amends the apportionment formula for multi-state taxpayers to reflect market-based sourcing. 

Under current law, for purposes of apportionment, sales (other than sales of tangible personal property) are attributed to Massachusetts if (i) the income-producing activity is in Massachusetts or (ii) the activity is performed inside and outside of Massachusetts and a greater portion of the activity is in Massachusetts than any other state.   Effective for tax years beginning on or after January 1, 2014, for purposes of apportionment, those sales will be sourced to Massachusetts if the taxpayer’s market for the sale is in Massachusetts.  The law contains specific rules for the sourcing of different types of sales: 

  • Real Property.  Attributed to Massachusetts if and to the extent the property is in Massachusetts. 
  • Tangible Personal Property.  Attributed to Massachusetts if and to the extent the property is in Massachusetts. 
  • Services.  Attributed to Massachusetts if the service is delivered to a location in Massachusetts. 
  • Lease or License of Intangible Property (including sales where payment is based on productivity, use, etc…).  Attributed to Massachusetts if and to the extent the property is used in Massachusetts. 
  • Sale of Intangible Property.  Attributed to Massachusetts if and to the extent the property is used in or otherwise associated with Massachusetts. 

The law also includes a “throwout rule” which provides that sales (other than sales of tangible personal property) attributed to a state where the taxpayer is not taxable or where the location of the sale cannot be determined shall be excluded from both the numerator and denominator of the sales factor. 

The law also applies the sales tax to (i) the modification, integration, enhancement, installation, or configuration of standardized software and (ii) “computer system design services,” which is defined as “the planning, consulting, or designing of computer systems that integrate computer hardware, software, or communication technologies and are provided by a vendor or third party.”  The law has raised significant questions, prompting the Department of Revenue to issue a Technical Information Release the day after the bill passed, and answers to frequently asked questions less than a week later.   Nevertheless, the very short period between the bill’s passage and the effective date of this provision (just 7 days) has created substantial challenges for taxpayers. 

The change has significant implications for computer and software vendors, as well as consumers of these services.  Massachusetts vendors will generally be required to collect and remit the new taxes where the sale is sourced to Massachusetts except where the consumer provides a “Multiple Points of Use Certificate.”  Where a vendor is not required to collect the tax, or otherwise neglects to collect the tax, the consumer is liable for use tax on the sale.