Were software and credit-data receipts sourced to Illinois because the servers and programmers were there, or to the states where lender customers received the product or service?

Plain-English summary

Server and programmer location alone did not answer where the receipts belonged in the Illinois sales factor. One related company developed and managed software infrastructure in Illinois; the other used that infrastructure to provide credit-data and related services to lenders nationwide.

The GIL said the legal character of each transaction controlled. A transfer of copyright rights followed Section 304(a)(3)(B-1)'s copyright-utilization rule. A software license that did not transfer copyright rights followed the intangible-property rule in Section 304(a)(3)(C-5)(iii). A service followed Section 304(a)(3)(C-5)(iv), generally where the customer received it, with special rules for fixed places of business, ordering offices, billing offices, and states where the seller was not taxable.

The request did not provide enough information to classify the transactions. The GIL also noted that if the two companies formed a unitary business group, intercompany sales would be eliminated from the sales factor.

What this means for you

Start with contracts and delivered rights, not server location or governing-law clauses. Separate copyright transfers, ordinary software licenses, hosted access, data services, and management services before applying a sourcing rule.

Common questions

Q: Did Illinois source all receipts to the server location?
A: No.

Q: Did customer location always control?
A: It generally mattered for services, but different rules applied to copyright transfers and other intangible receipts.

Q: Did the GIL decide the two companies' actual sales factors?
A: No. The transaction facts were insufficient.

Citations and references

• 35 ILCS 5/304(a), (h) — business-income apportionment and sales factor
• 35 ILCS 5/304(a)(3)(B-1), (B-2) — copyright and intangible receipts
• 35 ILCS 5/304(a)(3)(C-5)(iii), (iv) — intangible-income and service-receipt sourcing
• 86 Ill. Adm. Code 100.5215, 100.5270 — unitary intercompany eliminations

Subject

Apportionment –

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2014.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2014/it-14-0003.pdf

Original ruling text

IT 14-0003 GIL 04/02/2014 APPORTIONMENT – Sales Factor
General explanation of the sales factor sourcing rules for software and related services.

April 2, 2014
Re:

GIL Request

Dear Xxxxx:
This is in response to your letter dated February 14, 2014 in which you request a General Information
Letter (GIL). A GIL is designed to provide general information, is not a statement of Department policy
and is not binding on the Department. See 86 Ill. Adm. Code 1200.120(b) and (c), which may be
accessed from the Department’s web site at www.ILtax.com.
Your letter states as follows:
We are seeking a general information letter with respect to the above noted entities. Primarily,
we are interested in the State’s perspective on each companies “origin of sales.” It is the
taxpayers’ wish to determine, as foreign businesses doing business in Illinois, what the
appropriate amount of sales that should be apportioned to Illinois.
Background:
ABC Company, Inc. (ABC) was incorporated in the State. Likewise, Company was also
organized under State law.
Business:
ABC developed proprietary software designed to “pull,” among other things, the credit reports
for individuals from all three credit reporting bureaus. It employs computer programmers who
maintain the software and related computer servers, hereinafter known as the “infrastructure.”
ABC licenses and manages the infrastructure to and for Company. The file servers and
programmers are located in Illinois for convenience.
Company works with banks and other mortgage lenders throughout the United States. It
provides access to the infrastructure, licensed from ABC, for bankers and mortgage lenders
who are collecting credit history for prospective borrowers. In addition, it will solicit data
collection and or, where warranted, aid the lenders in “cleaning-up” the credit history of their
prospective borrowers.
Revenues:
ABC receives licensing and management fees from Company for use and management of its
infrastructure. It also receives general management fees for normal recurring general business
and personnel matters.
Company receives its fee revenue from various individual banks and mortgage lenders
throughout the United States that use Company’s services to gather credit data for their
prospective borrowers.
Questions:

1. What is the origination of sale for Company revenues? Is it Illinois because the servers and
software are located there? Should it be each state where the particular inquiring bank or
lender is located?

2. What is the origination of sale for ABC’s revenue? Should it be State since that is where the
   software was originated and license agreement signed and is governed under State law?
   RULING
   Section 304 of the Illinois Income Tax Act (“IITA”; 35 ILCS 5/304) contains apportionment rules that
   determine the amount of business income of a nonresident that is taxable in Illinois where the income
   is derived from Illinois and one or more other states. Under Section 304(a) and (h), the general
   apportionment rule requires a taxpayer to multiply its business income for the taxable year by its
   sales factor. Section 304(a)(3)(A) defines the “sales factor” as the fraction consisting of the taxpayer’s
   total sales in Illinois during the taxable year over its total sales everywhere during the taxable year.
   The apportionment required under Section 304(a) is to be performed following the close of the
   taxpayer’s taxable year. The taxpayer determines its total business income for the taxable year, and
   then apportions to Illinois that part of such income that bears the same ratio as the taxpayer’s Illinois
   sales for the taxable year bears to total taxable year sales.
   IITA Section 304(a)(3) provides various rules for determining whether sales are sourced to Illinois for
   sales factor purposes. Under Section 304(a)(3)(B-1), gross receipts from the license, sale, or other
   disposition of a copyright are sourced to Illinois,
   to the extent the item is utilized in this State during the year the gross receipts are included in
   gross income.
   …

one
or

A copyright is utilized in a state to the extent that printing or other publication originates in the
state. If a copyright is utilized in more than one state, the extent to which it is utilized in any
state shall be a fraction equal to the gross receipts from sales or licenses of materials printed
published in that state divided by the total of such gross receipts for all states in which the
copyright is utilized.

However, under IITA Section 304(a)(3)(B-2), gross receipts from the disposition of patents,
copyrights, trademarks, and similar items of intangible personal property may be included in the
numerator and denominator of the sales factor only if such items comprise more than 50% of the
taxpayer’s total gross receipts included in gross income during the tax year and during each of the 2
immediately preceding tax years; provided that, when a taxpayer is a member of a unitary business
group, such determination shall be made on the basis of the gross receipts of the entire unitary
business group.
Section 304(a)(3)(C-5)(iii) provides that income from intangible personal property is treated as an
Illinois sale if:

the

(a) in the case of a taxpayer who is a dealer in the item of intangible personal property within
meaning of Section 475 of the Internal Revenue Code, the income or gain is received from a
customer in this State. For purposes of this subparagraph, a customer is in this State if the
customer is an individual, trust, or estate who is a resident of this State and, for all other
customers, if the customer’s commercial domicile is in this State. Unless the dealer has actual
knowledge of the residence or commercial domicile of a customer during a taxable year, the

customer shall be deemed to be a customer in this State if the billing address of the customer,
as shown in the records of the dealer, is in this State; or
(b) in all other cases, if the income-producing activity of the taxpayer is performed in this State
or, if the income-producing activity of the taxpayer is performed both within and without this
State, if a greater proportion of the income-producing activity of the taxpayer is performed
within this State than in any other state, based on performance costs.

Section 304(a)(3)(C-5)(iv) provides the sourcing rule for sales of services:
Sales of services are in this State if the services are received in this State. For the purposes of
this section, gross receipts from the performance of services provided to a corporation,
partnership, or trust may only be attributed to a state where that corporation, partnership, or
trust has a fixed place of business. If the state where the services are received is not readily
determinable or is a state where the corporation, partnership, or trust receiving the service
does not have a fixed place of business, the services shall be deemed to be received at the
location of the office of the customer from which the services were ordered in the regular
course of the customer’s trade or business. If the ordering office cannot be determined, the
services shall be deemed to be received at the office of the customer to which the services are
billed. If the taxpayer is not taxable in the state in which the services are received, the sale
must be excluded from both the numerator and the denominator of the sales factor.
Under this provision, gross receipts from sales of services are generally assigned to the numerator of
the Illinois sales factor if the services are received in Illinois. However, in the case of services
provided to a corporation, partnership, or trust, gross receipts from services received in Illinois are not
included in the numerator of the Illinois sales factor unless the corporation, partnership, or trust
maintains a fixed place of business in Illinois. If the state where the services are received is not
readily determinable or is a state where the corporation, partnership or trust receiving the service
does not have a fixed place of business, gross receipts are treated as Illinois sales if either (i) the
customer ordered the services in the regular course of business from its Illinois office, or (ii) if the
ordering office cannot be determined, the services are billed to the customer’s Illinois office. In
addition, gross receipts from services received outside of Illinois may be deemed received in Illinois,
and thus included in the numerator of the Illinois sales factor, if the recipient corporation, partnership,
or trust does not maintain a fixed place of business in the state in which the services are actually
received and either (i) the customer ordered the services in the regular course of business from its
Illinois office, or (ii) if the ordering office cannot be determined, the services are billed to the
customer’s Illinois office. Finally, where a taxpayer is not taxable in the state in which the services are
actually or deemed received, the associated gross receipts must be excluded from both the
numerator and denominator of the Illinois sales factor.
In this case, your letter does not provide sufficient information to determine whether either taxpayer is
transferring software to customers or using the software to provide services to customers. If either
taxpayer is transferring a copyright in software to its customers, gross receipts from such transactions
are sourced according to the rule at IITA Section 304(a)(3)(B-1). On the other hand, if either taxpayer
is licensing software to its customers (other than a copyright right), gross receipts from such
transactions are sourced according to the rules at IITA Section 304(a)(3)(C-5)(iii). Finally, if either
taxpayer is providing a service to its customers, gross receipts from such transactions are sourced
under IITA Section 304(a)(3)(C-5)(iv). In addition, note that if ABC and COMPANY constitute a
unitary business group, intercompany sales would be eliminated in determining either member’s or
the group’s sales factor. 86 Ill. Adm. Code 100.5215, 100.5270.

As stated above, this is a GIL. A GIL does not constitute a statement of policy that applies, interprets
or prescribes the tax laws, and it is not binding on the Department. If you have questions regarding
this GIL you may contact Legal Services at (217) 782-7055. If you have further questions related to
Illinois income tax laws, visit our website at www.revenue.state.il.us or contact the Department’s
Taxpayer Information Division at (217) 782-3336.

Sincerely,

Brian L. Stocker
Staff Attorney (Income Tax)