When a software vendor separately invoices each of three $25,000 software packages plus a maintenance agreement covering all three, does Tennessee's $1,600 single-article cap apply once per package or once to the whole sale, and does the maintenance agreement get the same cap?

Subject

Application of the single article sales tax cap to itemized prewritten software packages and optional maintenance agreements.

Plain-English summary

The Tennessee Department of Revenue ruled on how the state's "single article" tax caps apply to a software vendor that separately invoices each piece of prewritten software it licenses, plus an optional maintenance agreement — using the concrete example of a customer buying three separate $25,000 software packages on one invoice, plus a $40,500 maintenance agreement itemized per package.

Each separately itemized software package gets its own single-article cap. Tennessee's local-option sales tax caps at $1,600 per "single article" of tangible personal property, and the separate state single-article tax applies an extra 2.75% to the $1,600–$3,200 band. Prewritten software is tangible personal property, and — critically — because this taxpayer bills each software package as its own line item (unlike a bundled lump sum), each $25,000 package is its own "single article." That means the cap applies three times, once per package ($1,600 × 2.25% local rate × 3 = $108 in the example), not once to the combined $75,000 total. The same math applies to the separate state single-article tax ($1,600 × 2.75% × 3 = $132). None of this changes whether the software is delivered on physical media or electronically — Tennessee taxes software "whatever the means used."

The maintenance agreement gets no single-article cap at all — its whole price is taxed. Even though it's billed per supported software product (so a customer can cancel support on one product without affecting the others), the maintenance agreement itself is a taxable service contract (a contractual right to future repair/support), not tangible personal property. Since Tennessee's single-article cap only applies to sales of tangible personal property, the full price of the maintenance agreement — telephone support, software patches, enhancements, and upgrades bundled together — is taxed at the regular local and state sales tax rates with no $1,600/$3,200 ceiling of any kind.

This ruling directly contrasts with the bundled, non-itemized software sales analyzed in a companion 2008 ruling (Letter Ruling 08-17): here, itemizing each package on the invoice preserves the per-article cap for each one, exactly the opposite of what happens when a seller bundles components into one lump-sum, non-itemized price.

What this means for you

Software vendors and other multi-component sellers

Itemization is what makes Tennessee's single-article cap work in your favor. If you invoice each software package (or other qualifying tangible item) as its own separately priced line, each one gets its own $1,600 local-option cap and its own $1,600–$3,200 state single-article band — a real savings on large-ticket, multi-item sales. But that itemization discipline only helps for actual tangible personal property; don't expect the same cap to extend to service or maintenance contracts you sell alongside it, since those are taxed on their full price regardless of how you itemize them.

Accountants and tax professionals

This ruling is the itemized-invoice mirror image of the bundled-invoice analysis in TN Letter Ruling 08-17 (both citing Honeywell Information Systems v. King, Executone of Memphis, Inc. v. Garner, and Colemill Enterprises, Inc. v. Huddleston): where 08-17 held bundling forfeits the cap, 08-24 confirms that itemizing preserves it, one $1,600/$3,200 band per item. Also flag the distinct treatment of "service agreement as intangible contractual right" from Covington Pike Toyota, Inc. v. Cardwell — useful whenever a client sells hardware/software alongside a maintenance or warranty contract and wants to know which piece gets the cap.

Purchasers of large multi-item software licenses

If you're buying multiple software packages on one invoice, ask your vendor to itemize each package separately — an itemized invoice can substantially reduce your total local and state single-article tax exposure compared to one lump-sum price for the whole bundle.

Common questions

Q: Does the $1,600 single article cap apply once per invoice or once per item?
A: Once per item, as long as each item is separately itemized on the invoice at its own price. A bundled, non-itemized lump sum instead forfeits the cap for the whole bundle (see TN Letter Ruling 08-17).

Q: Does electronic delivery of software change how the single-article cap applies?
A: No. Tennessee taxes prewritten computer software the same way regardless of whether it's delivered on physical media, electronically, or otherwise.

Q: Does a software maintenance agreement get the same $1,600/$3,200 cap as the software itself?
A: No. A maintenance/support agreement is a taxable service contract, not tangible personal property, so the single-article cap doesn't apply at all — its entire price is subject to local and state sales tax.

Q: Does billing the maintenance agreement per supported product (rather than as one lump sum) change its tax treatment?
A: No. Regardless of how it's itemized, the maintenance agreement remains a service and gets no single-article cap either way.

Q: Does this ruling bind the Department for other software vendors?
A: No. This is a Revenue Ruling — advisory only and not binding on the Department, even for the taxpayer who requested it.

Citations and references

Statutes and cases:

• Tenn. Code Ann. § 67-6-702(a)(1), (d) (2007) (local option single article cap; "single article" definition, bundled sets excluded)
• Tenn. Code Ann. § 67-6-202(a) (2007) (state single article sales tax, $1,600–$3,200 band at 2.75%)
• Tenn. Code Ann. § 67-6-102(60)(A) (2007) (definition of "prewritten computer software" as tangible personal property)
• Tenn. Code Ann. § 67-6-102(17) (2007) (definition of "computer software")
• Tenn. Code Ann. § 67-6-231 (2007) (software taxable regardless of delivery method)
• Tenn. Code Ann. § 67-6-230(b) (2007) (warranty/maintenance service contracts taxable as services)
• Honeywell Information Systems v. King, 640 S.W.2d 553 (Tenn. 1982); Executone of Memphis, Inc. v. Garner, 650 S.W.2d 734 (Tenn. 1983) (itemized invoicing preserves single-article status per component)
• Colemill Enterprises, Inc. v. Huddleston, 1996 Tenn. App. LEXIS 769 (Tenn. Ct. App. 1996) (single-article cap applies only to tangible personal property, not services)
• Creasy Systems Consultants, Inc. v. Olsen, 716 S.W.2d 35 (Tenn. 1986) (software taxed "whatever the means used")
• Covington Pike Toyota, Inc. v. Cardwell, 829 S.W.2d 132 (Tenn. 1992) (service/warranty agreement as intangible contractual right, not tangible property)

Source

• Landing page: https://www.tn.gov/revenue/tax-resources/legal-resources/tax-rulings.html
• Original PDF: https://www.tn.gov/content/dam/tn/revenue/documents/rulings/sales/08-24.pdf

Original ruling text

TENNESSEE DEPARTMENT OF REVENUE
REVENUE RULING # 08-24
WARNING
Revenue rulings are not binding on the Department. This presentation of the ruling in a
redacted form is information only. Rulings are made in response to particular facts
presented and are not intended necessarily as statements of Departmental policy.

SUBJECT
Application of the single article limitation to computer software and optional maintenance
agreements for purposes of Tennessee sales and use taxation.
SCOPE
Revenue rulings are statements regarding the substantive application of law and statements of
procedure that affect the rights and duties of taxpayers and other members of the public.
Revenue rulings are advisory in nature and are not binding on the Department.

FACTS
The Taxpayer is headquartered and incorporated outside of Tennessee. The Taxpayer licenses
the use of various computer software products to customers across the U.S., including customers
in Tennessee. Customers may receive delivery of the software in a tangible format, such as CD
or diskette, or it may be delivered electronically on its own with no other tangible personal
property (i.e., manuals). In either case, customers may also purchase an optional software
maintenance agreement. The maintenance agreement provides telephone support, software
patches, product enhancements, and product upgrades. The software patches and enhancements
are only available for electronic delivery. The product upgrades are available for delivery in
both a tangible format and an electronic format.

QUESTIONS
1.
Does the $1,600 limitation to the local option sales tax apply to prewritten computer
software?
(a) If so, assuming a local rate of 2.25%, how is the tax applied to the example of a
customer purchasing three separate $25,000 pieces of prewritten computer software on
the same invoice? Specifically, is the $1,600 limit applied once to the total price of
$75,000, resulting in $36 ($1,600 x 2.25%) of local option sales tax, or is the $1,600 limit

applied to each $25,000 piece of prewritten computer software, resulting in $108 ($1,600
x 2.25% x 3) of local option sales tax?
(b)

Does the application of the tax change if Taxpayer delivered the prewritten
computer software electronically?

2.
Does $1,600 limitation to the local option sales tax apply to the optional software
maintenance contract that includes software patches, enhancements, and upgrades, as well as
telephone support?
3.
If the answer to Question #2 is yes, does $1,600 limitation to the local option sales tax
apply to the aggregate maintenance agreement cost, or does it apply based on the cost of each
piece of the maintenance contract by software product supported? For example:
In the hypothetical sale in 1(a) above, a maintenance agreement for the three pieces
of prewritten computer software would cost $40,500 (based on the total $75,000
license). Taxpayer’s invoice would separately state a charge of $13,500 per each
piece of prewritten computer software supported. This is because a customer may
cancel support for a particular product without changing support of the others.
4.

If the answer to Question #1 is yes,
(a) Is the state single article sales tax, applicable to sales of tangible personal property
on the amount greater than $1,600 and less than or equal to $3,200, applied in the
same manner with respect to prewritten computer software?
(b) Does the electronic delivery of the prewritten computer software have an impact on
the application of the state single article tax limitation?

5.

How is the state single article sales tax applied to the Taxpayer’s software maintenance
agreement as described above?
RULINGS

1. Yes. The $1,600 limitation to the local option sales tax applies to prewritten computer
   software.
   (a) The $1,600 limit applies to each $25,000 piece of prewritten computer software.
   Assuming a local rate of 2.25%, $108 ($1,600 x 2.25% x 3) in local option sales tax is due.
   (b) The application of the $1,600 limitation to the local option sales tax is the same for
   the sale of prewritten computer software that is delivered electronically.
   2.
   No. The $1,600 limitation to the local option sales tax does not apply to the optional
   software maintenance contract that includes software patches, enhancements, and upgrades, as
   well as telephone support. Maintenance agreement costs are sales of taxable services; the $1,600

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limitation to the local option sales tax is only applicable to the sale of tangible personal property
and does not apply to the sale of taxable services.
3.

Not applicable. See Ruling #2.

4.
(a) The state single article sales tax is applied with respect to prewritten computer
software in the same manner as in Question #1. The tax applies to each $25,000 package.
(b) Electronic delivery of the software package does not have an impact on the
application of the state single article sales tax.
5.
The state single article sales tax does not apply to the Taxpayer’s software maintenance
agreement, as maintenance agreements are not tangible personal property. As indicated in
Ruling #2 above, the local option sales tax would apply to the total price of the package.

ANALYSIS
Under the Retailers’ Sales Tax Act, Tenn. Code Ann. § 67-6-101 (2007) et seq., the retail sale of
tangible personal property is generally subject to the Tennessee sales and use tax. Tenn. Code
Ann. § 67-6-702(a)(1) authorizes counties and incorporated cities to impose an additional tax on
the first $1,600 of the sale of any single article of tangible personal property (the “local option
sales tax”). Tenn. Code Ann. § 67-6-202(a) (2007) imposes an additional state tax at the rate of
2.75 percent on the amount over $1,600, but less than or equal to $3,200, on the sale or use of
any single article of tangible personal property (the “state single article sales tax”).

1. The local option single article cap and the local option sales tax.
   The Taxpayer’s prewritten computer software products are subject to the local option single
   article cap for purposes of the local option sales tax.
   Tenn. Code Ann. § 67-6-702(a)(1) (2007) authorizes counties and incorporated cities to impose
   the local option sales tax on the first $1,600 of the sale of any single article of tangible personal
   property.1 Tenn. Code Ann. § 67-6-702(d) (2007) defines the term “single article” for purposes
   of the local option sales tax as “that which is regarded by common understanding as a separate
   unit exclusive of any accessories, extra parts, etc., and that which is capable of being sold as an
   independent unit or as a common unit of measure, a regular billing or other obligation.”
   Additionally, Tenn. Code Ann. § 67-6-702(d) (2007) provides that “[s]uch independent units
   sold in sets, lots, suites, etc., at a single price shall not be considered a single article.”
   The creation and transfer of computer software constitutes a taxable sale under Tennessee law,
   thereby subjecting the sale of software to the local option sales tax. Tenn. Code Ann. § 67-6102(60)(A) (2007) specifies that “ prewritten computer software” is tangible personal property
   for the purposes of the Tennessee sales and use tax. Tenn. Code Ann. § 67-6-102(60)(A) (2007)
   defines “prewritten computer software” as
   1

The $1,600 limit is referred to for purposes of this revenue ruling as the “local option single article cap.”

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computer software, including prewritten upgrades, which is not designed and
developed by the author or other creator to the specifications of a specific
purchaser. The combining of two or more “prewritten computer software”
programs or prewritten portions thereof does not cause the combination to be
other than “prewritten computer software.” “Prewritten computer software"
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 the
purchaser. Where a person modifies or enhances computer software of which the
person is not the author or creator, the person shall be deemed to be the author or
creator only of such person’s modifications or enhancements. “Prewritten
computer software” or a prewritten 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 “prewritten computer
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 “prewritten computer software.”2
Under the local option sales tax, a single article is taxed at the local rate only with respect to the
first $1,600 of the sales price. However, if the item being sold does not meet the definition of a
“single article,” the entire sales price will be subject to taxation at the local rate. Therefore, it is
necessary to determine under what circumstances prewritten computer software products are
“regarded by common understanding as a separate unit exclusive of any accessories, extra parts,
etc., and that which is capable of being sold as an independent unit.” Tenn. Code Ann. § 67-6702(d) (2007). A standard prewritten computer software product developed for sale to the
general public, i.e., not customized or custom created software, is commonly understood as a
separate unit, and the single article cap will apply to the sale of prewritten computer software.
Similarly, the Department also considers a license agreement that contemplates the transfer of
rights to use certain prewritten computer software products to be a single article for purposes of
the local option sales tax and the state single article sales tax, provided that the agreement
separately itemizes the consideration to be paid for each separate piece of prewritten computer
software and license. See Honeywell Information Systems v. King, 640 S.W.2d 553 (Tenn. 1982)
(taxpayer must treat sale of components as individual sales and not as packaged sale for each
component to be considered a single article).
In Honeywell Information Systems, Inc., 640 S.W.2d at 553, the taxpayer plaintiff leased
computer components. The taxpayer’s method of marketing, invoicing and record-keeping
clearly demonstrated that it did not lease the component units of its computer systems as one
single entity. Rather, it invoiced its customer for each of the components, each bearing its own
serial number, and a specific monthly rental being charged for each component. The Tennessee
Supreme Court held that since the taxpayer did not treat these components as “a single article of

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“Computer software” is defined differently than “prewritten computer software.” Under Tenn. Code Ann. § 67-6102(17) (2007) computer software means a set of coded instructions designed to case a computer or automatic data
processing equipment to perform a task. Tenn. Code Ann. § 67-6-231 states that the sale or use of “computer
software,” including “prewritten computer software,” shall be subject to the tax levied by Title 67, Chapter 6.

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personal property” for purposes of its own leasing, invoicing and collections, the Commissioner
for the Department of Revenue was likewise justified in treating them separately.
In Executone of Memphis, Inc. V. Garner, 650 S.W.2d 734 (Tenn. 1983), the Tennessee Supreme
Court clarified that it is the character of each component, not how a taxpayer treats each
component, that determines its status as a single article. The court dismissed the plaintiff’s
argument that the plugs, the switching systems, and the telephone units in a digital telephone
switching system were components of a single article because no single component is sufficient
on its own. The Court held that:
In applying the considerations set out in Rule 6 to the present case, it requires no
distortion to conclude that the plugs, the switching systems, and the telephone
units, as they are described here, are “commonly understood” to be separate units.
The Plaintiff admits that these articles have unit prices, that they can be put
together to meet various office needs, and that if the occasion arose they could be
sold separately to one who needs a system alteration. To conclude that only the
system itself constitutes a single unit completely ignores the separate physical
character of each component part, both in the design of the system and in the
ultimate benefit to the customer.
Executone of Memphis, 650 S.W. 2d at 737 (emphasis added). Thus, it is character of each
component, not how a taxpayer treats each component, that determines its status as a single
article.
However, in Colemill Enterprises, Inc. v. Huddleston, 1996 Tenn. App. LEXIS 769
(Tenn.Ct.App. 1996), rev’d on other grounds, 967 S.W.2d 753 (Tenn. 1998), the Tennessee
Court of Appeals held that the single article cap did not apply to a rebuilt airplane, because the
plaintiff did not itemize the individual components and services separately on the invoice, with
the result being that the Commissioner of Revenue had no means to determine the price of each
individual component. The Colemill plaintiff rebuilt airplanes using numerous components, and
claimed that the single article cap applied to the sale of the entire rebuilt airplane even though a
portion of the sales price included charges for installation services (to which the single article
cap does not apply). The Tennessee Court of Appeals rejected this argument, noting that the
plaintiff charged one fee for an entire rebuilt airplane. Because the plaintiff did not itemize the
individual components and services separately on the invoice, the Commissioner of Revenue had
no means to determine the price of each individual component. The court agreed with the
Commissioner that assessing tax on the full sales price was the only way the Commissioner
could ensure that the full amount of the installation services were taxed, and that the aircraft
parts were properly taxed as well. The single article cap therefore did not apply to the rebuilt
airplane, and the entire sales price was subject to the local option sales tax.
Under the Honeywell and Executone analysis, the prewritten computer software components sold
by the Taxpayer are properly characterized as single articles. However, under Colemill, if the
Taxpayer does not separately invoice for each piece of prewritten computer software and sales
those items for one lump-sum price, the sale will not be subject to the single article cap.
Furthermore, consistent with the Colemill analysis, Tenn. Code Ann. § 67-6-702(d) provides that

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“[s]uch independent units sold in sets, lots, suites, etc., at a single price shall not be considered a
single article.”
Like the plaintiff in Honeywell Information Systems, Inc., the Taxpayer indicates that it treats the
sales of the prewritten computer software as the sale of single items. Specifically, the Taxpayer
charges separately for each piece of prewritten computer software and for each maintenance
agreement.
As illustrated in the Colemill decision and in Tenn. Code Ann. § 67-6-702(d), if a dealer does not
allocate or determine a sales price corresponding to each single article, the local option single
article cap will generally not apply, and the full sales price is subject to the local option sales tax.
Because the Taxpayer’s sale of prewritten computer software can be broken down, the sale will
be treated as the sale of single articles. Accordingly, the local option single article cap will apply
to each piece of prewritten computer software that is sold or licensed.
Furthermore, the manner in which the prewritten computer software is transferred to the
customers has no effect on the application of the local option single article cap. The legislature
intended to tax the transfer or fabrication of computer software programs “whatever the means
used.” Creasy Systems Consultants, Inc. v. Olsen, 716 S.W.2d 35 (Tenn. 1986). Furthermore,
Tenn. Code Ann. § 67-6-231 (2007) specifically states that the sale or use of computer software,
including prewritten computer software, shall be subject to the tax levied by Title 67, Chapter 6,
regardless of whether the software is delivered electronically, by use of tangible storage media,
or otherwise. Thus, the application of relevant Tennessee sales and use tax laws is the same
whether the software is delivered on tangible storage media, electronically or otherwise.
In summary, the Taxpayer’s software products are subject to the local option single article cap
for purposes of the local option sales tax. Each piece of prewritten computer software that is
transferred to the customer, by whatever means, will be considered the sale of a single article.
Finally, each license to use prewritten computer software will likewise be considered a sale of a
single article.

2. Software maintenance contracts and the local option single article cap.
   The local option single article cap does not apply to the optional software maintenance contract
   for purposes of the local option sales tax.
   As noted above, the sale of customized or prewritten computer software is subject to Tennessee
   state and local sales and use tax. Charges for warranty or service contracts warranting the repair
   or maintenance of tangible personal property are subject to sales tax pursuant to Tenn. Code
   Ann. § 67-6-230(b) (2007). The Taxpayer’s maintenance agreements fall within the parameters
   of Tenn. Code Ann. § 67-6-230(b) (2007) and, thus, are subject to sales tax.
   Under Tenn. Code Ann. § 67-6-702(a)(1), the local option single article cap only applies to the
   sale of tangible personal property. See Colemill Enterprises Inc. v. Huddleston, 1996 Tenn. App.
   LEXIS 769 (Tenn.Ct.App. 1996), rev’d on other grounds, 967 S.W.2d 753 (Tenn. 1998) (stating
   that the single article cap applies only to personal property, and local governments may tax the

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entire amount of a taxable service provided). Even though the maintenance contract provided by
the Taxpayer consists of both upgrades and telephone support, together they constitute a service
agreement. The service agreement, though not a service itself, is a contractual right to receive
repair or maintenance service in the future. As such, the service agreement may be properly
characterized not being tangible personal property. See Covington Pike Toyota, Inc. v. Cardwell,
829 S.W.2d 132 (Tenn. 1992). As such, the local option single article cap does not apply to the
Taxpayer’s sale of the Taxpayer’s maintenance agreements, and the local option sales tax will
apply to the total sales price of the agreement.

3. Application of the local option single article cap to the maintenance agreements.
   As set forth in Ruling #2, above, the local option single article cap does not apply to the sale of
   software maintenance agreements.
4. Application of the state single article sales tax to sales of prewritten computer software.
   As noted above, Tenn. Code Ann. § 67-6-202(a) imposes an additional state sales tax at the rate
   of 2.75 percent on the amount over $1,600, but less than or equal to $3,200, on the sale or use of
   any single article of tangible personal property.3 The state single article sales tax is generally
   applied in the same manner as the local option single article cap, and the method of software
   distribution does not affect this application.
   (a)
   The state single article sales tax is applied in the same manner as the local option single
   article cap with two exceptions. First, it is applied at a uniform rate of 2.75% rather than at a
   rate that varies according to location. Second, it is levied on the amount of the sale of a single
   article that is in excess of $1,600 but less than or equal to $3,200. Like the local option single
   article cap, the state single article sales tax only applies to the sale of any single article of
   personal property as defined in Tenn. Code. Ann. § 67-6-702(a)(1). This 2.75% tax is in addition
   to the 7% state sales tax and is a tax for state purposes only. No county or municipality or taxing
   district has the power to levy any tax on the amount between $1,600 and $3,200, on the sale or
   use of any single article of personal property. Thus, if three items sold for $25,000 each, the
   state single article sales tax would apply to $1,600 of the cost of each item at the rate of 2.75%
   ($3,200 - $1,600 = $1,600). The state single article tax due on such a sale is $132 ($1,600.00 x
   2.75% x 3).4
   (b)
   The application of the state single article sales tax is the same whether the software is
   manually or electronically distributed. See Analysis for Ruling #1.
5. The State level single article sales tax as applied to the maintenance agreements.
   The state single article sales tax does not apply to the Taxpayer’s software maintenance
   agreement.
   3

The $1,600 to $3,200 limit is referred to for purposes of this revenue ruling as the “state single article cap.”
Legislation related to the Streamlined Sales and Use Tax Agreement, effective July 1, 2009, may result in changes
regarding the application of sales and use tax sales to single articles of tangible personal property. The Department
of Revenue encourages you to visit our website at www.tennessee.gov/revenue for updates.

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For the same reasons given in response to Question # 2, the state single article tax, like the local
option single article cap, does not apply to the sales of the maintenance agreements. Thus, the
state single article cap does not apply to service or warranty contracts such as the Taxpayer’s
software maintenance contract.

Tony Greer
Tax Counsel

Approved:

Date:

Reagan Farr
Commissioner of Revenue

3-12-08

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