My out-of-state SaaS company is going to start having customers headquartered in Illinois -- does that create nexus requiring us to file an Illinois corporate income tax return, and if so, what sales threshold triggers it?

Plain-English summary

A corporation based in another state sells a Software as a Service (SaaS) solution, hosted on its own website, that customers access and pay for over the internet -- nothing is installed on the customer's local computers or systems. The company understood that SaaS doesn't create Illinois sales tax nexus, but some of its clients' customers were going to be headquartered or located in Illinois in the future, so it asked the Department whether those SaaS (hosting fee) sales would create nexus requiring it to file an Illinois corporate income tax return, and if so, what sales threshold would trigger that requirement.

The Department declined to rule on nexus itself. As it does with essentially all nexus inquiries, the Department explained that whether a taxpayer has nexus with Illinois is "extremely fact specific," so it does not issue rulings on that question. Nexus can only be determined in the context of an audit, where a Department auditor has access to all relevant facts.

There is no bright-line income tax threshold like the sales tax one. The letter directly addresses the taxpayer's threshold question: for sales tax, Illinois requires remote sellers to collect tax once their Illinois sales exceed $100,000 or 200 transactions (per South Dakota v. Wayfair). But Illinois has not adopted an equivalent bright-line threshold for income tax nexus. Instead, Illinois asserts jurisdiction to tax business income to the full extent allowed under the U.S. Constitution -- meaning nexus is governed by the general Due Process/Commerce Clause "minimum connection" and "substantial nexus" standards (citing Complete Auto Transit v. Brady and Quill Corp. v. North Dakota), not a specific dollar figure.

The constitutional and statutory backdrop. A non-resident corporation can have sufficient nexus with Illinois through activity conducted in interstate commerce, even without a presumption arising merely from having to apportion income under Article 3 of the IITA. Public Law 86-272 can shield an out-of-state corporation from Illinois net income tax, but only if its only in-state activity is soliciting sales of tangible personal property -- a protection that, by its own terms, does not extend to sales of services or intangible property such as SaaS.

Filing requirements once liability exists. Under IITA Section 502(a), a nonresident corporation must file an Illinois return if it either incurs Illinois tax liability under Section 201, or is qualified to do business in Illinois and required to file a federal return (regardless of Illinois liability). Liability depends on computing Illinois "net income," which starts from federal taxable income, is adjusted for Illinois modifications, classified as business or nonbusiness income, and apportioned to Illinois using a sales-factor formula (Illinois sales over total sales everywhere) under Section 304.

Whether SaaS receipts are sourced to Illinois depends on how the SaaS is characterized. The Department pointed to its own sourcing rules for the sales factor: leased tangible personal property sources to where it's located; a dealer's sales of intangible property source to where the customer is; other intangible income sources based on where the income-producing activity occurs; and services source to where they are received. The letter directs the taxpayer to 86 Ill. Adm. Code 100.3370(c)(8)(D) -- and separately to proposed federal Treasury Regulation 1.861-19 (on classifying cloud transactions) -- to work out whether the SaaS solution should be treated as a service or a lease of property. If treated as a service, receipts would be sourced under Section 304(a)(3)(C-5)(iv), i.e., to where the customer receives the service.

What the Department didn't do. It never told the taxpayer whether nexus actually exists once Illinois-based customers come online, and it never characterized this specific SaaS arrangement as a service or a lease of property -- it left both determinations to the taxpayer (in the first instance) and ultimately to a future audit.

What this means for you

SaaS and other remote software/service providers with future Illinois customers

Don't assume a sales-tax-style dollar or transaction threshold protects you from Illinois corporate income tax -- there isn't one. Illinois can assert income tax nexus based on the general constitutional "substantial nexus" standard as soon as facts support it, which can be a lower and less predictable bar than the $100,000/200-transaction sales tax threshold.

Companies relying on Public Law 86-272

P.L. 86-272 only protects solicitation of sales of tangible personal property. Because SaaS is neither tangible personal property nor mere solicitation, this protection is unlikely to apply to SaaS hosting-fee revenue -- the letter doesn't say this expressly, but the scope of P.L. 86-272 as described leaves no room for a services/SaaS-based business to rely on it.

Determining how to source your SaaS receipts

Work through 86 Ill. Adm. Code 100.3370(c)(8)(D) to decide whether your SaaS arrangement is better characterized as a service (sourced to where the customer receives it) or a lease of intangible/tangible property (sourced differently) -- this characterization drives your sales-factor apportionment once nexus is established.

Accountants and tax professionals

Because the Department will not resolve nexus by letter ruling, build a documented, fact-specific record (customer locations, contract terms, how the SaaS is delivered and used) so you're prepared if the question arises in an audit, rather than waiting for or expecting a definitive advance answer.

Common questions

Q: Is there a sales-dollar or transaction-count threshold that triggers Illinois corporate income tax nexus for SaaS sales, similar to the sales tax threshold?
A: No. Illinois has a $100,000/200-transaction threshold for sales tax nexus, but it has not adopted an equivalent threshold for income tax nexus. Income tax nexus is instead governed by general constitutional standards, and Illinois asserts jurisdiction to the full extent the Constitution allows.

Q: Will the Department tell me definitively whether my SaaS sales create Illinois income tax nexus?
A: No. The Department stated that nexus determinations are extremely fact specific and are not resolved through letter rulings -- only through an audit where all relevant facts are available.

Q: Does Public Law 86-272 protect my SaaS company from Illinois income tax?
A: The letter explains that P.L. 86-272 only protects a nondomiciliary corporation whose sole in-state activity is solicitation of sales of tangible personal property; it does not describe SaaS as qualifying for this protection.

Q: When am I required to file an Illinois corporate income tax return?
A: Under IITA Section 502(a), a nonresident must file if it incurs Illinois tax liability under Section 201, or if it is qualified to do business in Illinois and required to file a federal income tax return, regardless of whether it actually owes Illinois tax.

Q: How do I know if my SaaS receipts should be sourced as a service or as a lease of property?
A: The Department points to 86 Ill. Adm. Code 100.3370(c)(8)(D) for that determination; if characterized as a service, receipts are sourced to Illinois under Section 304(a)(3)(C-5)(iv) if the services are received in Illinois.

Citations and references

Statutes, regulations, and cases:

• 35 ILCS 5/201(a), (c) (income tax and PPRT income tax on corporations)
• 35 ILCS 5/202, 203 (net income and base income computation)
• 35 ILCS 5/304(a), (h), (a)(3)(A), (C-5)(ii)-(iv) (apportionment, sales factor, sourcing rules)
• 35 ILCS 5/502(a) (filing requirements)
• 86 Ill. Adm. Code 100.9720(a), (e) (nexus; constitutional limits)
• 86 Ill. Adm. Code 100.3370(c)(8)(D) (service-vs-lease-of-property test)
• Public Law 86-272 (15 U.S.C. § 381)
• Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977)
• Quill Corp. v. North Dakota, 504 U.S. 298 (1992)
• South Dakota v. Wayfair, Inc., 138 S. Ct. 2080 (2018)
• Proposed Treas. Reg. 1.861-19, 84 FR 40317 (Aug. 14, 2019)

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2023.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2023/it23-0019-gil.pdf

Original ruling text

IT 23-0019-GIL 10/12/2023 NEXUS/CORPORATE FILING REQUIREMENTS
Nexus issues are not generally suitable for resolution by letter ruling. (This
is a GIL.)
October 12, 2023
NAME
ADDRESS
E-MAIL
Re: Illinois Income Tax – Nexus/Corporate Filing Requirements
Dear NAME:
This is in response to your letter received on September 19, 2023, in which you
request information regarding income tax nexus under Illinois law for filing an
Illinois corporate income tax return for sales of Software as a Service (SaaS).
The nature of your request and the information you have provided require that we
respond with a General Information Letter (“GIL”), which is designed to provide
general information, is not a statement of Department policy, and is not binding
on the Department. See 2 Ill. Adm. Code Section 1200.120(b) and (c), which
may be found on the Department’s website at www.tax.illinois.gov.
Your letter states as follows:
Our client is a STATE Corporation, and their primary business location is
in STATE. They offer a Software as a Service (SaaS) solution that is
hosted on CORPORATION WEBSITE. The users of this product access
the SaaS service through the internet and subscribe to it, paying for the
service. It’s important to note that the software isn’t installed on the
customers’ local computers or environments. In the future some of our
clients’ customers will be
headquartered/located in Illinois.
We understand SaaS does not create Illinois sales tax nexus for our client.
However, it was unclear whether SaaS sales will result in nexus for filing
an Illinois corporate income tax return, assuming sales thresholds are met.
Please let us know if the SaaS (hosting fees) is included in the corporate
income tax nexus rules and if so what thresholds need to be exceeded to
require our client to file an Illinois Corporate Income Tax Return.
RULING
The determination as to whether a taxpayer has nexus with Illinois is extremely
fact specific. Therefore, the Department does not issue rulings regarding whether
a taxpayer has nexus with the State. Such a determination can only be made in

the context of an audit where a Department auditor has access to all relevant
facts and information. For information regarding nexus, see 86 Ill. Adm. Code
Section 100.9720 (accessible from the Department’s website). In addition, the
following general information regarding income tax nexus with the State may be
provided.
Section 201(a) of the Illinois Income Tax Act (“IITA”, 35 ILCS 5/101 et seq.)
imposes a tax measured by net income on corporations on the privilege of
earning or receiving income in or as a resident of Illinois. In addition, Section
201(c) of the IITA imposes a second tax (the personal property tax replacement
income tax) measured by net income on corporations on the privilege of earning
or receiving income in or as a resident of Illinois.
86 Ill. Adm. Code Section 100.9720(a) provides in pertinent part:

In general, a resident of this State will always be subject to these taxes.
Activity conducted in interstate commerce may establish sufficient nexus
with Illinois to permit imposition of these taxes on a non-resident taxpayer,
as well, when the non-resident earns or receives income in this State
within the meaning of the IITA. Complete Auto Transit, Inc. v. Brady, 430
U.S. 274, 97 S. Ct. 1076 (1977); Quill v. North Dakota, 504 U.S. 298, 112
S. Ct. 1904 (1992). However, the fact that Article 3 of the IITA requires a
non-resident taxpayer to allocate or apportion income to this State does
not create a presumption that the taxpayer has nexus.
Further, 86 Ill. Adm. Code Section 100.9720(e) provides:
U.S. Constitutional Jurisprudence. If not protected by U.S. or Illinois
statute, an income-producing activity may, nonetheless, be protected from
State taxation by principles of U.S. Constitutional
jurisprudence. Controlling decisions that assert protections afforded by
the Interstate Commerce Clause, the Foreign Commerce Clause and the
Due Process Clause are accepted by this State as limitations on the reach
of its income tax and personal property tax replacement income tax
statutes. However, nothing stated in this subsection (e) shall prevent
Illinois from challenging taxpayer assertions of U.S. Constitutional
protection.
In South Dakota v. Wayfair, Inc. (138 S. Ct. 2080 (2018)), the United States
Supreme Court ruled that states may tax remote sales based on economic as
well as physical presence. For sales tax purposes, Illinois requires remote sellers
to collect sales tax from Illinois customers if their amount of sales into Illinois
exceed $100,000 or 200 transactions. Illinois has not adopted a similar threshold
for income tax nexus but asserts jurisdiction to tax business income to the full
extent allowed under the U.S. Constitution.
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The Due Process Clause and the Commerce Clause of the United States
Constitution limit the power of states to subject foreign corporations and other
nonresidents to income tax. The Due Process Clause requires that there exists
some minimum connection between a state and the person, property, or
transaction the state seeks to tax. (Quill Corp. v. N. Dakota, 504 U.S. 298 (1992))
Similarly, the Commerce Clause requires that a state’s tax be applied only to
activities with a substantial nexus to the taxing state. (Id.) In the case of foreign
corporations, Illinois may not assert jurisdiction to tax where a corporation falls
under the protection provided by Public Law 86-272. (15 U.S.C. § 381) Public
Law 86-272 precludes any state from subjecting a nondomiciliary corporation to a
net income tax where such corporation’s only activities within the state for the
taxable year consist of solicitation activities for sales of tangible personal
property.
Section 502(a) of the IITA sets forth the requirements for filing Illinois income tax
returns. This section states in pertinent part as follows:
(a) In general. A return with respect to the taxes imposed by this Act
shall be made by every person for any taxable year:
(1) for which such person is liable for a tax imposed by this Act, or
(2) in the case of a resident or in the case of a corporation which is
qualified to do business in this State, for which such person is
required to make a federal income tax return, regardless of
whether such person is liable for a tax imposed by this Act.
Pursuant to this section, a nonresident must file an Illinois income tax return if it
incurs a liability for tax imposed under Section 201 of the IITA, or in the case of a
corporation qualified to do business in Illinois, if it is required to file a federal
income tax return, regardless of whether such person is liable for Illinois income
tax.
A nonresident is liable for Illinois income tax under Section 201 of the IITA if it
computes “net income” as defined under Section 202. Section 202 of the IITA
defines Illinois net income as that portion of the taxpayer’s “base income” as
defined in Section 203, which is allocated or apportioned to Illinois under the
provisions of Article 3 of the IITA, less certain deductions. Under Section 203 of
the IITA, base income is generally determined by starting with the taxpayer’s
federal taxable income (adjusted gross income in the case of an individual) and
adjusting that amount by certain statutorily prescribed addition and subtraction
modifications. Base income must then be classified as between nonbusiness
income and business income, and allocated or apportioned to Illinois,
respectively, according to the rules set forth in Article 3 of the IITA. Under Article
3, business income is apportioned to Illinois based on an apportionment ratio in
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which the numerator is the amount of the taxpayer’s sales in Illinois and the
denominator is the amount of the taxpayer’s sales everywhere.
Section 304 of the IITA 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 Sections 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.
Section 304(a)(3) of the IITA provides various rules for determining whether
sales are sourced to Illinois for sales factor purposes. Section 304(a)(3)(C-5)(ii)
provides that sales from the lease or rental of tangible personal property are
sourced to Illinois if the property is located in Illinois during the rental period.
Section 304(a)(3)(C-5)(iii) provides that income from intangible personal property
is sourced to Illinois where, (i) if the taxpayer is a dealer with respect to the item
of intangible personal property, the income is received from a customer in Illinois,
or (ii) if the taxpayer is not a dealer, the income producing activity of the taxpayer
is performed in Illinois. Section 304(a)(3)(C-5)(iv) provides that sales of services
are sourced to Illinois if the services are received in Illinois.
86 Ill. Adm. Code Section 100.3370 provides rules for determining “sales” in
various situations, except for when an alternative method of determining the
sales factor is prescribed in Section 100.3380. 86 Ill. Adm. Code Section
100.3370(c)(8)(D) provides guidance on whether the SaaS sales for your client
would be characterized as a sale of service or a lease of property. In addition,
proposed Treasury Regulation 1.861-19 provides guidance, for certain provisions
of the Internal Revenue Code, on the treatment of income from cloud
transactions as either service income or lease of property (Classification of Cloud
Transactions and Transactions Involving Digital Content, 84 FR 40317, August
14, 2019 (to be codified at 26 CFR 1.861-19)). If you determine the SaaS
solution to be treated as a sale of service after considering all the relevant
factors, then receipts from sales would be sourced for sales factor purposes
under IITA Section 304(a)(3)(C-5)(iv).
As stated above, this is a GIL. A GIL does not constitute a statement of
Department policy that applies, interprets or prescribes the tax laws, and it is not
binding on the Department. If you require additional information, please visit the
Department’s website at www.tax.illinois.gov or contact the Department’s
Taxpayer Assistance Division at (800) 732-8866.
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Sincerely,
Jennifer Uhles
Associate Counsel (Income Tax)

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