Is a bank trade-processing software license taxable as prewritten software even when the vendor must customize hundreds of settings before delivery, and are later custom modifications and support separately taxed?

Plain-English summary

OMR Systems licenses a trade-processing software program used by banks and investment firms, plus custom "Modifications" it builds for individual licensees and "Support Services" for troubleshooting and on-site help. Before delivering the base Program to any customer, OMR's technicians must configure more than 900 internal settings (SYSOPs) to match that customer's specific hardware, financial instruments, and preferences -- without this configuration, the software doesn't function at all. OMR asked whether its license fees for the Program, Modifications, and Support Services are taxable.

The Department ruled that the base Program's license fee is taxable as prewritten software, despite all that configuration work. The key distinction: prewritten software is software built with the foresight and flexibility to serve many customers, even if it must be configured differently for each one -- as opposed to software built from scratch to one customer's specifications. Because OMR designed the underlying Program to accommodate its whole customer base through configurable settings, rather than building a one-off product for a single client, it stays "prewritten" and taxable, though a reasonable, separately stated charge for the SYSOP configuration work itself can be exempt.

By contrast, true Modifications -- custom code OMR writes at a specific licensee's request, going beyond the base Program's built-in settings -- are not prewritten software, so their fees are exempt as long as they're reasonable and separately stated on the invoice. Updates (which may include modifications built for one customer but rolled out free to others) and basic Support Services are free during the warranty period and not taxed. Additional paid Support Services follow the same separate-statement rule as Modifications: exempt if reasonable and separately stated, but if a support package bundles taxable elements (like prewritten Updates) with nontaxable elements (like on-site consulting) without breaking out the charges, the whole bundled fee becomes taxable.

What this means for you

Software vendors selling configurable enterprise software

Extensive per-customer configuration doesn't automatically make your software "custom" for tax purposes. If the underlying program was designed with built-in flexibility to serve a broad customer base through settings or parameters, it generally remains taxable prewritten software -- true customization means writing new code to that customer's specific requirements, not just adjusting existing settings.

Vendors billing separately for modifications, updates, and support

Keep charges for genuine custom modifications and for support or consulting services reasonable and clearly broken out on invoices from any taxable prewritten software or updates sold alongside them. Bundling everything into one lump-sum charge risks making the entire bundle taxable, even the parts that would be exempt if billed separately.

Financial-technology and enterprise-software accountants

This ruling is a useful worked example applying TSB-M-93(3)S's prewritten-vs-custom framework to a heavily parameterized enterprise system, and reinforces that the "designed and developed to the specifications of a specific purchaser" test looks at the software's original design intent, not the amount of configuration needed at delivery.

Common questions

Q: Does having to configure hundreds of settings for each customer make software "custom" and exempt?
A: Not by itself. If the software was designed from the start with the flexibility, via configurable settings, to serve many customers, it remains taxable prewritten software even though heavy per-customer configuration is required before it works.

Q: Are custom modifications built for one customer at their request taxable?
A: No, as long as the charge is reasonable and separately stated on the invoice -- genuine custom modifications aren't prewritten software.

Q: Are free software updates and basic support taxable?
A: No. Updates and basic Support Services provided at no charge aren't subject to sales tax.

Q: What happens if a support package bundles taxable and nontaxable services into one fee?
A: The entire bundled fee becomes taxable unless the nontaxable elements are broken out with a reasonable, separately stated charge.

Q: Can another software vendor rely on this ruling?
A: No. It binds the Department only as to OMR Systems Corporation and the facts it described about its specific licensing model.

Citations and references

• Tax Law § 1101(b)(4), (5), (6), (14) (retail sale; license to use; prewritten software definitions)
• Tax Law § 1105(a) (tax on retail sales of tangible personal property)
• Tax Law § 1115(o) (exemption for services performed on software)
• TSB-M-93(3)S (State and Local Sales and Compensating Use Taxes Imposed on Certain Sales of Computer Software, March 1, 1993)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/sales_ao_1998.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/sales/a98_59s.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-98(59)S
Sales Tax
September 9, 1998

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. S970910A

On September 10, 1997, the Department of Taxation and Finance received a
Petition for Advisory Opinion from OMR Systems Corporation, CN 581, Princeton,
New Jersey 08542.
Petitioner, OMR Systems Corporation, provided additional
information pertaining to the Petition on June 11, 1998.
The issue raised by Petitioner is whether fees received from customers in
New York State in exchange for Petitioner’s Program, Modifications and Support
Services are subject to sales and compensating use tax.
Petitioner submitted the following facts as the basis for this Advisory
Opinion.
Petitioner licenses a software computer program module (the “Program") that
provides a fully integrated, multi-currency, trade processing system for in-house
use by investment and commercial banks, specialty trading companies and
investment managers. The Program is a trade processing system that facilitates
deal capture and supports back-office activities for most financial products.
The Program provides an end-to-end electronic processing environment.
This
includes trade entry, trade verification, unrealized profit and loss on a
market-to-market basis, liquidations, realized profit and loss, deal
confirmations, net income processing and automated journal entries for all
transactions.
Pursuant to Petitioner’s master license and support agreement, Petitioner
grants a licensee a nonexclusive, nonassignable and perpetual license of: (i) a
Program, (ii) any modifications to this Program that are requested by the
licensee (the "Modifications"), and (iii) any updates to this Program (the
"Updates"). The license fee for the Program varies, depending upon the average
daily transaction processing volume.
A Modification is customized software for which a separate charge is
imposed by Petitioner. The fee for a Modification is based upon a specified
per-hour fee for each employee assigned to perform the task of designing and
programming the Modification according to the business requirement for the
requested modification.
The licensee does not pay any fee for Updates, which may include
Modifications made for different licensees that are made available to every
licensee (i.e., a Modification for one customer can be added as an Update to the
Program of another customer at no charge).
Petitioner makes available basic support services which are free of charge
during the warranty period (the "Support Services"). These services include a
telephone hotline service that allows the licensee to report problems with the
functionality and productive use of the Program. These services also include

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September 9, 1998

making the Updates available. Additional Support Services, including on-site
support and project management support, are available for a fee.
There is no static Program that a licensee can simply install and use. All
licensees require changes and, therefore from a practical perspective, no two
licensees license the same Program.
Prior to licensing any Program, Petitioner visits the licensee’s location
to determine licensee-specific information relating to the licensee’s hardware,
third party software, specific financial instruments traded, and other
licensee-specific requirements. Before the Program is delivered to the licensee,
more than 900 system operating switches (SYSOPs) in the Program must be set to
customize the Program to operate in accordance with the licensee preferences
established in the on-site interview and to function in the licensee’s computer
environment. Each of the 900+ SYSOPs has a specific number of possible values
(settings) that usually range from between two and 20, creating virtually an
infinite number of possible combinations. Practically all of the SYSOPs are
interrelated, and they all must be set by Petitioner’s team of qualified
technicians. Petitioner records on tape a copy of the Program that reflects the
individualized settings and delivers the tape to the licensee for installation.
The Program is not functional without these adjustments.
Applicable Law and Regulations
Section 1101(b) of the Tax Law provides in part:
When used in this article for the purposes of the taxes
imposed by subdivisions (a), (b), (c) and (d) of section eleven
hundred five and by section eleven hundred ten, the following terms
shall mean:
*

*

*

(4) Retail sale. (i) A sale of tangible personal property to
any person for any purpose....
(5) Sale, selling or purchase.
Any transfer of title or
possession or both, exchange or barter, rental, lease or license to
use or consume (including, with respect to computer software, merely
the right to reproduce), conditional or otherwise, in any manner or
by any means whatsoever for a consideration....
(6) Tangible personal property. Corporeal personal property
of any nature.... Such term shall also include pre-written computer
software, whether sold as part of a package, as a separate
component, or otherwise, and regardless of the medium by means of
which such software is conveyed to a purchaser....
*

*

*

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(14) Pre-written computer software.
Computer software
(including pre-written upgrades thereof) which is not software
designed and developed by the author or other creator to the
specifications of a specific purchaser. The combining of two or
more pre-written computer software programs or pre-written portions
thereof does not cause the combination to be other than pre-written
computer software.
Pre-written software also includes software
designed and developed by the author or other creator to the
specifications of a specific purchaser when it is sold to a person
other than such purchaser.
Where a person modifies or enhances
computer software of which such person is not the author or creator,
such person shall be deemed to be the author or creator only of such
person’s modifications or enhancements. Pre-written software or a
pre-written portion thereof that is modified or enhanced to any
degree, where such modification or enhancement is designed and
developed to the specifications of a specific purchaser, remains
pre-written software; provided, however, that where there is a
reasonable, separately stated charge or an invoice or other
statement of the price given to the purchaser for such modification
or enhancement, such modification or enhancement shall not
constitute pre-written computer software.
Section 1105(a) of the Tax Law imposes sales tax on the “receipts from
every retail sale of tangible personal property, except as otherwise provided in
this article.”
Section 1115(o) of the Tax Law provides:
Services otherwise taxable under subdivision (c) of section
eleven hundred five or under section eleven hundred ten shall be
exempt from tax under this article where performed on computer
software of any nature; provided, however, that where such services
are provided to a customer in conjunction with the sale of tangible
personal property any charge for such services shall be exempt only
when such charge is reasonable and separately stated on an invoice
or other statement of the price given to the purchaser.
Technical Services Bureau Memorandum, State and Local Sales and
Compensating Use Taxes Imposed on Certain Sales of Computer Software,
TSB-M-93(3)S, March 1, 1993, provides in part:
Effective September 1, 1991, State and local sales and
compensating use taxes are imposed on the sale or use of prewritten
computer software and certain related services.
The effect of this change in the Tax Law is to broaden the
types of computer software that are subject to sales and use
taxes.... [C]ertain software previously considered “custom” may now
be considered prewritten computer software and subject to such
taxes....

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Prewritten computer software is any computer software that is
not designed and developed by the author or other creator to the
specifications of a specific purchaser.
The sale of prewritten software includes any ... license to
use ... for a consideration. Thus, a payment made by a customer ...
for a license to use ... prewritten software is subject to sales or
use tax....
*

*

*

Prewritten software is subject to tax whether sold as part of
a package or separately....
Prewritten software, even though modified or enhanced to the
specifications of a specific purchaser, remains prewritten software
subject to tax. However, if a charge for the custom modification or
enhancement is reasonable and separately stated on the invoice or
billing statement, then the separately stated charge for the custom
modification or enhancement is not subject to tax.
*

*

*

The incidental use of a development language (e.g., COBOL,
BASIC, C, etc.) or of libraries of "prewritten" functions or
routines in designing and developing a "custom" software program to
the specifications of a specific purchaser will not, in and of
itself, make the sale of an otherwise custom program taxable. The
"custom" program must be examined as a whole to determine whether it
is exempt from tax.
If the prewritten components of a custom
program are sold separately, their sale is subject to tax.
The purchase of a development language or libraries of
software routines is subject to sales or use tax if it is used in
designing and developing custom software....
*

*

*

Services taxable under section 1105(c) of the Tax Law are
exempt from tax under section 1115(o) of the Tax Law where performed
on any computer software.
However, where such services to be
performed on software are sold in conjunction with the sale of
tangible personal property, such as prewritten software, the charge
for such services is exempt only if it is reasonable and separately
stated on the invoice or billing statement given to the customer.
Thus, charges for customer (user) support or for information
services provided by a vendor [t]o a customer, either in person or
by some type of telecommunications arrangement (e.g., telephone,
modem, facsimile machine, etc.), in the nature of training,
consulting, instructing or other diagnostic or troubleshooting

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services related to prewritten software are exempt from sales and
use taxes where the charges are reasonable and separately stated.
Charges for the service of installing, repairing, maintaining or
servicing prewritten software are also exempt from sales and use
taxes where the charges are reasonable and separately stated on the
invoice. Of course, any charges for the above described services
sold in connection with custom software are exempt from tax.
Programming and systems analysis are also exempt services.
However, where these services are rendered in conjunction with the
sale of prewritten software, the charge for the service is exempt
from tax only when the charge for the service is reasonable and
separately stated on the invoice or billing statement given to the
customer.
*

*

*

If a software maintenance agreement provides for the sale of
both taxable elements (e.g., prewritten software upgrades) and
nontaxable elements (e.g., training, consulting, diagnostic and
troubleshooting support, etc.), the charge for the entire
maintenance agreement is subject to tax unless the charge for the
nontaxable elements is reasonable and separately stated in the
maintenance agreement and separately billed on the invoice or other
document of sale given to the purchaser.
Opinion
The license fee received by Petitioner in exchange for its Program is
subject to New York State and local sales taxes when the Program is delivered to
a customer in this State. The Program, even though subject to Modifications and
Updates, constitutes and remains “pre-written computer software” as defined in
Section 1101(b)(14) of the Tax Law.
Accordingly, these fees are taxable as
receipts from the sales (i.e., licenses to use) of tangible personal property
under Section 1105(a) of the Tax Law.
Technical Services Bureau Memorandum TSB-M-93(3)S, supra, provides guidance
with respect to sales of computer software and related services. This memorandum
explains the Department of Taxation and Finance’s policy regarding pre-written
computer software, including its de minimis policy regarding the “incidental” use
of development languages and libraries of prewritten functions and routines.
(See, TSI International Software Ltd., Adv Op Comm T&F, September 30, 1997,
TSB-A-97(59)S.) Petitioner’s Program, prior to any Modifications or Updates, is
not “incidental” to the overall trade processing systems that Petitioner licenses
to its customers and was not designed and developed by Petitioner to the
specifications of any one customer. Rather, the basic Program was designed and
developed with the foresight and flexibility to accommodate most, if not all, of
Petitioner’s customers via the setting of any of more than 900 SYSOPs. The fee
for the basic Program, therefore, is taxable, except to the extent that a
reasonable separately stated charge is made for setting the SYSOPs.

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Petitioner’s Modifications to the Program do not constitute pre-written
computer software and fees charged by Petitioner for these Modifications are not
subject to tax provided the fees are reasonable and continue to be separately
stated on any invoices or other statements of the price given to the customers.
(See, for example, Technical Services Bureau Memorandum TSB-M-93(3)S, supra; TSI,
supra; Software Dynamics, Inc., Adv Op Comm T&F, July 23, 1997, TSB-A-97(45)S;
State Tax Resources Group, Adv Op Comm T&F, July 11, 1996, TSB-A-96(44)S.)
Updates and Support Services that are provided to customers for no
consideration are not subject to sales tax.
However, as in the case of
Modifications, any fees charged by Petitioner for additional Support Services
must be reasonable and separately stated on any invoices or other statements of
price given to the customers in order not to be subject to sales tax. Provided,
further, if the additional Support Services that are available for a fee include
the sale of both taxable elements (e.g., pre-written Updates) and nontaxable
elements (e.g., on-site support), the entire fee is subject to tax unless the
charges for the nontaxable elements are also reasonable and separately stated.
In which case, only the charges for the taxable elements are subject to sales
tax. (See, Software Dynamics, Inc., supra; State Tax Resources Group, supra;
Moore Business Forms, Inc., Adv Op Comm T&F, February 15, 1995, TSB-A-95(6)S.)

DATED:
`

September 9, 1998

NOTE:

/s/
John W. Bartlett
Deputy Director
Technical Services Bureau

The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.