Does an out-of-state company that sells downloaded software over the internet, with no Illinois office or employees, have to collect Illinois sales/use tax on those sales?

Plain-English summary

This General Information Letter responds to an out-of-state software company that sells downloaded software packages, annual software updates, and separately billed custom programming over the internet. The company has no Illinois office or employees and does not deliver its product on a tangible medium like a CD; it occasionally sends someone onsite to install software and train customers, but bills that installation and training separately by the hour. The company asked whether it must collect Illinois sales tax on these sales, and if not, whether its Illinois customers owe use tax instead.

The Department explains that Illinois imposes two related taxes that together make up what is commonly called "sales tax": the Retailers' Occupation Tax (ROT) on retailers doing business in Illinois, and the Use Tax on the privilege of using tangible personal property purchased at retail. There are three categories of retailer for nexus purposes: an "Illinois retailer" that sells property in Illinois and owes ROT directly; a "retailer maintaining a place of business in Illinois" that must register and collect Use Tax from Illinois customers even without incurring ROT itself; and an out-of-state retailer with insufficient nexus, which owes neither tax, leaving its Illinois customers responsible for self-assessing and remitting their own Use Tax.

Whether a seller has enough connection to Illinois to be forced to collect tax is governed by the nexus standard from Quill Corp. v. North Dakota, which requires (1) that due process is satisfied because the seller purposely avails itself of the benefits of the Illinois market, and (2) that the seller has actual physical presence in Illinois to satisfy the Commerce Clause. Physical presence is not limited to a building — it includes any agent or representative acting on the seller's behalf, and, per Brown's Furniture, Inc. v. Zehnder, repetitive delivery and installation of the seller's product in Illinois. Separately, since 2011 and again (after being struck down and re-enacted) since 2015, Illinois law also treats an out-of-state retailer as "maintaining a place of business" here if it has a contract with an Illinois-based person who refers customers for a commission using a trackable mechanism such as a website link or promotional code, once cumulative referred sales exceed $10,000 over the preceding four quarters (so-called click-through nexus).

The letter also separately addresses how the company's products would be taxed if nexus exists. "Canned" (pre-written, non-custom) computer software is treated as taxable tangible personal property regardless of how it is delivered — including electronically. Custom software written to a customer's special order is generally not a taxable retail sale, and merely tweaking a canned package does not make it custom unless real and substantial changes are made. A license of canned software can also avoid tax if it meets a specific five-part test in the Department's regulations covering the license agreement, restrictions on duplication and transfer, backup/replacement policy, and return or destruction of the software at the end of the license term.

What this means for you

If you are an out-of-state seller of downloaded software or digital products

Simply selling software for download into Illinois, without more, does not automatically create nexus. What matters is whether you have physical presence in Illinois — an office, employees, agents/representatives, or repetitive onsite delivery/installation — or whether you have a qualifying referral-commission contract with someone located in Illinois that exceeds the $10,000 threshold over four quarters. If neither applies, you are not required to collect Illinois Retailers' Occupation Tax or Use Tax, but your Illinois customers still owe Use Tax on their purchases and must self-assess and remit it.

If you license or sell computer software into Illinois

Whether your software is taxable depends on whether it is "canned" (pre-written) or truly custom, and, for licensed canned software, whether your license agreement satisfies all five conditions in 86 Ill. Adm. Code 130.1935 (written agreement, restrictions on duplication/use, restrictions on sublicensing/transfer, a replacement/backup policy, and a requirement to destroy or return copies at the end of the license). Custom programming billed separately by the hour, as in this letter's facts, is treated differently from the sale of the canned software product itself.

Common questions

Does selling software for download into Illinois, with no Illinois office or employees, create nexus by itself?
Not necessarily. Under the Quill physical-presence test described in the letter, the seller generally needs some form of Illinois physical presence — such as an agent, representative, or repetitive onsite installation activity — before it can be compelled to collect Illinois Retailers' Occupation or Use Tax.

If a company occasionally sends someone onsite to install its software, does that create nexus?
The letter notes that physical presence "includes the presence of any agent or representative of the seller" and that "the vendor's delivery and installation of his product on a repetitive basis" will trigger Use Tax collection responsibilities, citing Brown's Furniture, Inc. v. Zehnder. Occasional, non-repetitive onsite visits present a closer question than the clearly repetitive activity described in that case.

If the seller doesn't have to collect tax, does the Illinois customer owe anything?
Yes. The letter states that an out-of-state retailer without sufficient nexus does not incur Retailers' Occupation Tax or a duty to collect Use Tax, but "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."

Is custom software taxed the same way as off-the-shelf ("canned") software?
No. Canned computer software is treated as taxable tangible personal property regardless of delivery method. Custom computer programs prepared to a customer's special order may not be taxable retail sales, though merely selecting and lightly modifying a canned package does not qualify as custom unless real and substantial changes are made.

Citations and references

• 2 Ill. Adm. Code 1200.110 — procedures for requesting a binding Private Letter Ruling (PLR)
• 2 Ill. Adm. Code 1200.120 — General Information Letters are non-binding and merely direct taxpayers to relevant sources
• 86 Ill. Adm. Code 130.101 — Retailers' Occupation Tax imposed on persons selling tangible personal property in Illinois
• 86 Ill. Adm. Code 150.101 — Use Tax imposed on the privilege of using tangible personal property purchased at retail
• 86 Ill. Adm. Code 150.130 — retailers may credit Use Tax collected against their Retailers' Occupation Tax liability on the same sales
• 86 Ill. Adm. Code 270.115 — selling activities that trigger Retailers' Occupation Tax liability, adopted after Hartney Fuel Oil Co. v. Hamer
• 86 Ill. Adm. Code 150.201(i) — definition of a "retailer maintaining a place of business in Illinois"
• 86 Ill. Adm. Code 150.801 — registration requirement for retailers maintaining a place of business in Illinois
• 86 Ill. Adm. Code 130.1935 — taxability of canned vs. custom computer software and the software-license exemption criteria
• 35 ILCS 105/2(1.2) — expanded definition of "retailer maintaining a place of business" (same name/mark contracts), effective July 1, 2011
• 35 ILCS 105/2(1.1) — click-through nexus provision for referral/commission contracts, effective January 1, 2015
• 35 ILCS 110/2(1.1) — companion Service Use Tax click-through nexus provision struck down in Performance Mktg. Ass'n, Inc. v. Hamer
• 35 ILCS 120/2-25 — statutory definition of "computer software"
• Quill Corp. v. North Dakota, 112 S. Ct. 1904 (1992) — two-prong due process/physical presence nexus test
• Hartney Fuel Oil Co. v. Hamer, 2013 IL 115130 — Illinois Supreme Court decision prompting amended selling-activity regulations
• Brown's Furniture, Inc. v. Zehnder, 171 Ill.2d 410 (1996) — repetitive delivery/installation as physical presence
• Performance Mktg. Ass'n, Inc. v. Hamer, 998 N.E.2d 54 (2013) — struck down the original 2011 click-through nexus statute

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-17-0014-gil.pdf

Original ruling text

ST 17-0014-GIL 05/31/2017

NEXUS

This letter discusses the rules regarding nexus and the taxability of food. See Quill Corp. v.
North Dakota, 112 S. Ct. 1904 (1992). See 86 Ill. Adm. Code 130.310. (This is a GIL.)

May 31, 2017

Dear Xxxxx:
This letter is in response to your letter dated January 18, 2017, 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:
It has recently been brought to our attention that our company, COMPANY, may be
subject to collecting sales tax on our internet sales to your state. We are a company
located in STATE and we sell different software packages that are downloaded from our
website. We provide support generally via telephone or they upload their database to
us & we fix and return, all through the internet. We also sell an annual update that is
downloaded and custom programming is done if requested. Custom programming is
billed separately by the hour. We occasionally go onsite to install and train. If we go
onsite to install our software, it is still downloaded and all training is charged separately
and billed by the hour. We do not have a sales office or employee in your state nor do
we use a tangible product like a CD. If we are subject to collecting sales tax, please
send copies of the necessary forms and information for reporting. If you could send me
more information detailing our responsibilities for taxing downloaded or other
telephone/online transactions, it would be greatly appreciated. This seems to be a very
confusing issue for most.
If we are incorrect and the buyer is responsible to pay on any portion of their purchase
through a use tax, please let me know as well.
Thank you in advance for your time and help with this situation.
questions, or need to speak with me, please call me.
DEPARTMENT’S RESPONSE:
Retailers’ Occupation Tax and Use Tax

If you have any

ST 17-0014-GIL
Page 2

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 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 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 reduce the amount of Use Tax they must remit by the amount of
Retailers' Occupation Tax liability which they are required to and do pay to the Department with
respect to the same sales. See 86 Ill. Adm. Code 150.130.
Nexus
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. See 86 Ill. Adm.
Code 270.115.
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:

ST 17-0014-GIL
Page 3

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,
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).
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

ST 17-0014-GIL
Page 4

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

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.
Information regarding registration, filing returns and remitting tax can be found on our website
at www.tax.illinois.gov.
I hope this information is helpful. If you require additional information, please contact the
Department’s Taxpayer Information Division at (217) 782-3336.

Very truly yours,

Richard S. Wolters
Associate Counsel

RSW:bkl