Does an out-of-state seller of a hardware device and a cloud-based software subscription have to collect Illinois sales tax, and does the Illinois customer owe use tax if it doesn't?

Plain-English summary

An out-of-state business asked the Illinois Department of Revenue whether it needed to collect Illinois sales tax on two different products it sold to car dealerships and mechanics: a physical DEVICE (mailed to customers via UPS, which the mechanic owns outright after purchase) used to record diagnostic videos, and a separate monthly subscription to online software that lets the mechanic send those videos to customers. The business had no offices or employees in Illinois and wanted to know whether it had "nexus" with the state at all, and if not, whether its Illinois customers would instead owe use tax.

The Department's response walks through Illinois' nexus framework. Illinois taxes retailers two ways: the Retailers' Occupation Tax (ROT) applies to businesses "engaged in this State" in the business of selling tangible personal property, while the Use Tax applies to the privilege of using tangible personal property purchased anywhere at retail. A business becomes responsible for collecting Illinois tax if it is an "Illinois Retailer" (one who makes sales of tangible personal property in Illinois) or a "retailer maintaining a place of business in Illinois," a category that reaches beyond a physical office to include in-state agents or representatives, and, since 2011 and 2015 amendments, certain referral/commission and "click-through" contract arrangements with Illinois-based affiliates that generate more than $10,000 in referred sales over four quarters.

The Department also summarized the constitutional backdrop: under Quill Corp. v. North Dakota, nexus requires satisfying both the Due Process Clause (purposeful availment of an in-state economic market) and the Commerce Clause (physical presence in the state, which Brown's Furniture, Inc. v. Zehnder confirms can include an in-state agent's repetitive delivery and installation activity, not just an office). If a retailer lacks sufficient nexus, it owes no ROT and has no duty to collect Use Tax — but its Illinois customers still owe Use Tax on their purchases and must self-assess and remit it directly to the Department.

Applying general tax mechanics rather than a specific nexus determination (the Department does not resolve individual nexus facts in a GIL), the letter distinguishes the two products. The physical DEVICE is tangible personal property, so its sale is potentially subject to ROT/Use Tax depending on the seller's nexus. The software subscription is different: viewing, downloading, or transmitting video, text, or data over the internet is not a transfer of tangible personal property, so a pure cloud-based, never-downloaded software service is currently not taxed by the Department, though the Department noted it continues to review such arrangements. Canned (non-custom) computer software is otherwise generally taxable, and services that come bundled with a transfer of tangible personal property (including software) can trigger Service Occupation Tax or Use Tax liability calculated under one of four statutory methods.

What this means for you

If you sell hardware and software from outside Illinois

Whether you must collect Illinois sales tax turns on nexus, not on where your inventory sits. You may have nexus even without an Illinois office if you have an in-state agent or representative, or if you have referral/commission contracts with Illinois-based affiliates whose referred sales exceed $10,000 over the preceding four quarters (the post-2015 "click-through" rules designed to survive the constitutional problems identified in Performance Mktg. Ass'n, Inc. v. Hamer). If you have no such presence, you are not required to collect tax, but you should tell your Illinois customers they likely owe self-assessed Use Tax.

If you buy a bundled hardware-plus-software product

Separately stated charges matter. Here, the hardware DEVICE and the software access were billed as two distinct items, not a single bundle, which is part of why the Department could analyze them separately. A standalone DEVICE purchase is a taxable retail sale of tangible personal property; a standalone cloud-based software subscription that is never downloaded is presently untaxed. If your vendor bundles a device with software as one package, the tax treatment could differ, so ask for separately stated pricing where you can.

If you're a service provider offering software as a service (SaaS)

A pure cloud-delivery model, where the software is never downloaded and only accessed remotely, is not currently subject to Illinois Retailers' Occupation, Use, Service Occupation, or Service Use Tax, according to the Department's current position described in this letter. The Department cautioned that it continues to review cloud-based arrangements and that any change in that position would apply only prospectively, so this is not a permanent guarantee. If your service does involve delivering an API, applet, agent, or downloadable component that functions as computer software, that component can be taxable even if there's no separate line-item charge for it, unless it qualifies as a non-taxable software license under the Department's five-part licensing test.

Common questions

Q: If my out-of-state business has no office or employees in Illinois, can Illinois still require me to collect sales tax?
A: Possibly. Under the "retailer maintaining a place of business in Illinois" definition, nexus can also arise from an in-state agent or representative (even a non-sales representative), repetitive delivery/installation activity in the state, or qualifying referral/commission ("click-through") contracts with Illinois affiliates whose referred sales exceed $10,000 over four quarters.

Q: If my out-of-state seller doesn't collect Illinois tax, am I off the hook?
A: No. If the seller lacks Illinois nexus and doesn't collect tax, the Illinois purchaser must self-assess and remit Use Tax directly to the Department on the purchase.

Q: Is access to cloud-based software taxed the same as buying a physical product?
A: Not currently. The Department does not treat viewing, downloading, or electronically transmitting data over the internet as a transfer of tangible personal property, so software accessed only remotely (never downloaded) is not presently taxed, unlike a physical device shipped to the customer.

Q: Does bundling a device with a software subscription change the tax result?
A: It can. In this letter, the hardware and software were billed as separate items, which supported analyzing them under different rules. Canned (non-custom) software delivered on physical media or downloaded is generally taxable tangible personal property; custom software prepared to a customer's special order may not be a taxable sale at all.

Citations and references

• 35 ILCS 120/2 — Retailers' Occupation Tax Act, tax on persons engaged in selling tangible personal property
• 35 ILCS 105/3 — Use Tax Act, tax on the privilege of using tangible personal property purchased at retail
• 35 ILCS 105/2(1.1) — click-through nexus provisions effective January 1, 2015 (referral/promotional-code arrangements)
• 35 ILCS 105/2(1.2) — "retailer maintaining a place of business" via commission-based contracts with in-state persons (effective July 1, 2011)
• 35 ILCS 120/2-25 — definition of "computer software"
• 35 ILCS 115/3 — Service Occupation Tax Act, tax on persons selling service involving transferred tangible personal property
• 86 Ill. Adm. Code 130.101 — Retailers' Occupation Tax regulation
• 86 Ill. Adm. Code 150.101 — Use Tax regulation
• 86 Ill. Adm. Code 150.201(i) — definition of "retailer maintaining a place of business in Illinois"
• 86 Ill. Adm. Code 150.310 — credit against Illinois Use Tax for tax properly paid to another state
• 86 Ill. Adm. Code 150.401 — retailer maintaining a place of business must collect tax from users
• 86 Ill. Adm. Code 150.801 — registration requirement as an Illinois Use Tax collector
• 86 Ill. Adm. Code 130.1935 and 130.1935(c)(3) — taxation of canned vs. custom computer software
• 86 Ill. Adm. Code 140.101 — Service Occupation Tax treatment of tangible personal property transferred incident to service
• Quill Corp. v. North Dakota, 112 S.Ct. 1904 (1992) — two-prong Due Process/Commerce Clause nexus test
• Hartney Fuel Oil Co. v. Hamer, 2013 IL 115130 — basis for amended Illinois Retailer selling-activity regulations
• Brown's Furniture, Inc. v. Zehnder, 171 Ill.2d 410 (1996) — physical presence includes repetitive in-state agent activity
• Performance Mktg. Ass'n, Inc. v. Hamer, 998 N.E.2d 54 (2013) — Illinois Supreme Court struck down 2011 click-through nexus provision

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/sales-tax/2017.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/sales-tax/2017/st-17-0010-gil.pdf

Original ruling text

ST 17-0010-GIL 03/21/2017 NEXUS
A retailer maintaining a place of business in Illinois must collect tax from users in accordance
with the Retailers’ Occupation Tax Act and the Use Tax Act by adding the tax to the selling
price of tangible personal property, when sold for use. See 86 Ill. Adm. 150.401. (This is a
GIL.)

March 21, 2017

Dear Xxxxx:
This letter is in response to your letter in which you requested information. The Department
issues two types of letter rulings. Private Letter Rulings (“PLRs”) are issued by the Department in
response to specific taxpayer inquiries concerning the application of a tax statute or rule to a
particular fact situation. A PLR is binding on the Department, but only as to the taxpayer who is the
subject of the request for ruling and only to the extent the facts recited in the PLR are correct and
complete. Persons seeking PLRs must comply with the procedures for PLRs found in the
Department’s regulations at 2 Ill. Adm. Code 1200.110. The purpose of a General Information Letter
(“GIL”) is to direct taxpayers to Department regulations or other sources of information regarding the
topic about which they have inquired. A GIL is not a statement of Department policy and is not
binding on the Department. See 2 Ill. Adm. Code 1200.120. You may access our website at
www.tax.illinois.gov to review regulations, letter rulings and other types of information relevant to your
inquiry.
The nature of your inquiry and the information you have provided require that we respond with
a GIL. In your letter you have stated and made inquiry as follows:
I have some questions relating to an out-of-state business and whether or not it would
be subject to sales tax. The business is out of state and they have no offices or people
working in Illinois. The business sells software access to car dealerships and car
mechanics. The dealership will pay a recurring monthly fee for access to the software,
which allows them to create and send videos. In the video, the mechanic will show you
your car, explain what the problem is, show the problem and explain how and why it
should be fixed. The mechanic will then send it to their customer.
Will there be sales tax on the following:

1. The Hardware – the business will send a DEVICE in the mail via UPS. This is used
   to make the video. It is not rented, once the mechanic purchases the DEVICE, they
   own it. They do not need to return it. The issue is that the business buys the
   DEVICES in STATE for which they already pay sales tax.
2. The second part is access to their online-based platform. This allows the mechanic
   to send the video to the customer. They are charged a monthly recurring fee for
   access to the software.

ST 17-0010-GIL
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The hardware and the software are billed as two separate items. It is not part of the
same bundle/package. You do not need the DEVICE to access the software. It is not
downloaded and can simply be accessed from any internet connection.
If the business has no nexus with the state of Illinois, would the state have a right to
collect sales tax? I’ve spoken with the legal departments from several states and they
say, if the business has no nexus with the state, then the state has no legal authority to
collect the sales tax, according to the U.S. constitution. Different states interpret this
differently.
If you could please give an explanation as to why they would or would not be
responsible? Would the consumer be subject to use tax if sales tax is not paid? What
is the percentage? Is there a state and a jurisdictional tax? Feel free to cite any
publications I should reference.
If you need to reach me right away, you can call me.
DEPARTMENT’S RESPONSE:
The Illinois Retailers' Occupation Tax Act imposes a tax upon persons engaged in this State in the
business of selling tangible personal property to purchasers for use or consumption. See 35 ILCS
120/2; 86 Ill. Adm. Code 130.101. In Illinois, Use Tax is imposed on the privilege of using, in this
State, any kind of tangible personal property that is purchased anywhere at retail from a retailer. See
35 ILCS 105/3; 86 Ill. Adm. Code 150.101. These taxes comprise what is commonly known as
“sales” tax in Illinois. If the purchases occur in Illinois, the purchasers must pay the Use Tax to the
retailer at the time of purchase. The retailers are then allowed to retain the amount of Use Tax paid
to reimburse themselves for their Retailers' Occupation Tax liability incurred on those sales. If the
purchases occur outside Illinois, purchasers must self-assess their Use Tax liability and remit it
directly to the Department. The purchaser entitled to a credit against their Illinois Use Tax liability to
the extent that they have paid tax that was properly due to another state. See 86 Ill. Adm. Code
150.310.
Nexus
If the business is an “Illinois Retailer” or a “retailer maintaining a place of business in this
State” it is responsible for collecting and remitting tax on the DEVICE.
An “Illinois Retailer” is one who makes sales of tangible personal property in Illinois. The
Illinois Retailer is then liable for Retailers' Occupation Tax on gross receipts from sales and must
collect the corresponding Use Tax incurred by the purchasers. Our regulations were amended in
response to the Illinois Supreme Court’s decision in Hartney Fuel Oil Co. v. Hamer, 2013 IL 115130.
The regulations specify the selling activities that trigger Retailers’ Occupation Tax liability in Illinois.

ST 17-0010-GIL
Page 3

Another type of retailer is the retailer maintaining a place of business in Illinois. The definition
of a “retailer maintaining a place of business in Illinois” is described in 86 Ill. Adm. Code 150.201(i).
This type of retailer is required to register with the State as an Illinois Use Tax collector. See 86 Ill.
Adm. Code 150.801. The retailer must collect and remit Use Tax to the State on behalf of the
retailer’s Illinois customers even though the retailer does not incur any Retailers' Occupation Tax
liability.
The United States Supreme Court in Quill Corp. v. North Dakota, 112 S.Ct. 1904 (1992), set
forth the current guidelines for determining what nexus requirements must be met before a person is
properly subject to a state's tax laws. The Supreme Court has set out a 2-prong test for nexus. The
first prong is whether the Due Process Clause is satisfied. Due process will be satisfied if the person
or entity purposely avails itself or himself of the benefits of an economic market in a forum state. Quill
at 1910. The second prong of the Supreme Court's nexus test requires that, if due process
requirements have been satisfied, the person or entity must have physical presence in the forum
state to satisfy the Commerce Clause. A physical presence is not limited to an office or other
physical building. Under Illinois law, it also includes the presence of any agent or representative of
the seller. The representative need not be a sales representative. Any type of physical presence in
the State of Illinois, including the vendor’s delivery and installation of his product on a repetitive basis,
will trigger Use Tax collection responsibilities. Please refer to Brown’s Furniture, Inc. v. Zehnder, 171
Ill.2d 410 (1996).
The final type of retailer is the out-of-State retailer that does not have sufficient nexus with
Illinois to be required to submit to Illinois tax laws. A retailer in this situation does not incur Retailers’
Occupation Tax on sales into Illinois and is not required to collect Use Tax on behalf of its Illinois
customers. However, the retailer’s Illinois customers will still incur Use Tax liability on the purchase
of the goods and have a duty to self-assess and remit their Use Tax liability directly to the State.
Beginning July 1, 2011, the definition of a “retailer maintaining a place of business” was
amended to include additional types of retailers. A retailer maintaining a place of business also
includes a retailer having a contract with a person located in this State under which:
A.

The retailer sells the same or substantially similar line of products as the person located
in this State and does so using an identical or substantially similar name, trade name, or
trademark as the person located in this State; and

B.

The retailer provides a commission or other consideration to the person located in this
State based upon the sale of tangible personal property by the retailer. See 35 ILCS
105/2(1.2).

These provisions only apply if the cumulative gross receipts from sales of tangible personal property
by the retailer to customers in this State under all such contracts exceed $10,000 during the
preceding 4 quarterly periods. Please note that in Performance Mktg. Ass'n, Inc. v. Hamer, 998
N.E.2d 54 (2013) the Illinois Supreme Court struck down 35 ILCS 105/2(1.1) and 35 ILCS 110/2(1.1),
a “click-thru nexus provision” enacted in 2011. However, new provisions became effective January 1

ST 17-0010-GIL
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2015. The following provisions address the court’s concerns in Performance Mktg. Ass'n, Inc. v.
      Hamer, 998 N.E. 2d 54 (2013).
      Beginning January 1, 2015, a retailer maintaining a place of business also includes a retailer
      having a contract with a person located in this State under which the person, for a commission or
      other consideration based upon the sale of tangible personal property by the retailer, directly or
      indirectly refers potential customers to the retailer by providing to the potential customers a
      promotional code or other mechanism that allows the retailer to track purchases referred by such
      persons.
      Examples of mechanisms that allow the retailer to track purchases referred by such persons
      include but are not limited to the use of a link on the person's Internet website, promotional codes
      distributed through the person's hand-delivered or mailed material, and promotional codes distributed
      by the person through radio or other broadcast media. These provisions apply only if the cumulative
      gross receipts from sales of tangible personal property by the retailer to customers who are referred
      to the retailer by all persons in Illinois under such contracts exceed $10,000 during the preceding 4
      quarterly periods ending on the last day of March, June, September, and December. A retailer
      meeting these requirements shall be presumed to be maintaining a place of business in Illinois but
      may rebut this presumption by submitting proof that the referrals or other activities pursued within this
      State by such persons were not sufficient to meet the nexus standards of the United States
      Constitution during the preceding 4 quarterly periods. See 35 ILCS 105/2(1.1).
      Service Transactions:
      Retailers' Occupation Tax and Use Tax do not apply to sales of service. Under the Service
      Occupation Tax Act, businesses providing services (i.e., servicemen) are taxed on tangible personal
      property transferred as an incident to sales of service. See 86 Ill. Adm. Code 140.101. The purchase
      of tangible personal property that is transferred to the service customer may result in either Service
      Occupation Tax liability or Use Tax liability for the servicemen depending upon his activities. The
      serviceman’s liability may be calculated in one of four ways:
      (1)

separately-stated selling price of tangible personal property transferred incident to
service;

(2)

50% of the serviceman's entire bill;

(3)

Service Occupation Tax on the serviceman's cost price if the serviceman is a registered
de minimis serviceman; or

(4)

Use Tax on the serviceman's cost price if the serviceman is de minimis and is not
otherwise required to be registered under Section 2a of the Retailers' Occupation Tax
Act.

The Department does not consider the viewing, downloading or electronically transmitting of
video, text and other data over the internet to be the transfer of tangible personal property. However,

ST 17-0010-GIL
Page 5

if a company provides services that are accompanied with the transfer of tangible personal property,
including computer software, such service transactions are generally subject to tax liability under one
of the four methods set forth above.
If a transaction does not involve the transfer of any tangible personal property to the customer,
then it generally would not be subject to Retailers’ Occupation Tax, Use Tax, Service Occupation
Tax, or Service Use Tax.
Computer Software
“‘Computer software’ means a set of statements, data, or instructions to be used directly or
indirectly in a computer in order to bring about a certain result in any form in which those statements,
data, or instructions may be embodied, transmitted, or fixed, by any method now known or hereafter
developed, regardless of whether the statements, data, or instructions are capable of being perceived
by or communicated to humans, and includes prewritten or canned software.” 35 ILCS 120/2-25.
Generally, sales of “canned” computer software are taxable retail sales in Illinois. Canned computer
software is considered to be tangible personal property regardless of the form in which it is
transferred or transmitted, including tape, disc, card, electronic means, or other media. 86 Ill. Adm.
Code 130.1935. However, if the computer software consists of custom computer programs, then the
sales of such software may not be taxable retail sales. Custom computer programs or software are
prepared to the special order of the customer. The selection of pre-written or canned programs
assembled by vendors into software packages does not constitute custom software unless real and
substantial changes are made to the programs or creation of program interfacing logic. See 86 Ill.
Adm. Code 130.1935(c)(3). Computer software that is not custom software is considered to be
canned computer software.
If transactions for the licensing of computer software meet all of the criteria provided in
subsection (a)(1) of Section 130.1935, neither the transfer of the software nor the subsequent
software updates will be subject to Retailers' Occupation Tax. A license of software is not a taxable
retail sale if:
A)

It is evidenced by a written agreement signed by the licensor and the customer;

B)

It restricts the customer’s duplication and use of the software;

C)

It prohibits the customer from licensing, sublicensing or transferring the software to a
third party (except to a related party) without the permission and continued control of the
licensor;

D)

The licensor has a policy of providing another copy at minimal or no charge if the
customer loses or damages the software, or permitting the licensee to make and keep
an archival copy, and such policy is either stated in the license agreement, supported by
the licensor’s books and records, or supported by a notarized statement made under
penalties of perjury by the licensor; and

ST 17-0010-GIL
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E)

The customer must destroy or return all copies of the software to the licensor at the end
of the license period. This provision is deemed to be met, in the case of a perpetual
license, without being set forth in the license agreement.

If a license of canned computer software does not meet all the criteria the software is taxable.
A provider of software as a service is acting as a serviceman. As a serviceman, the seller
does not incur Retailers’ Occupation Tax. Service Occupation Tax is imposed upon all persons
engaged in the business of making sales of service on all tangible personal property transferred
incident to a sale of service, including computer software (35 ILCS 115/3), and is calculated as
explained above. Currently, computer software provided through a cloud-based delivery system – a
system in which computer software is never downloaded onto a client’s computer and is only
accessed remotely – is not subject to tax. The Department continues to review cloud-based
arrangements. If, after review, the Department determines that these transactions are subject to tax,
it will only apply this determination prospectively.
If a provider of a service provides to the subscriber an API, applet, desktop agent, or a remote
access agent to enable the subscriber to access the provider’s network and services, the subscriber
may be receiving computer software. Although there may not be a separate charge to the subscriber
for the computer software, it is nonetheless subject to tax, unless the transfer qualifies as a nontaxable license of computer software. If the provider, as a serviceman, is not otherwise required to be
registered under Section 2a of the Retailers' Occupation Tax Act and qualifies as a de minimis
serviceman, the provider could elect to pay Use Tax on its cost price of the computer software.
If you have further questions related to the Illinois sales tax laws, please visit our website at
www.tax.illinois.gov or contact the Department’s Taxpayer Information Division at (217) 782-3336.
Very truly yours,

Richard S. Wolters
Associate Attorney
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