For an advertising agency's retainer fees, ad campaigns, ad revisions, and sales materials, what parts of the bill are taxable, and what records does the agency need to keep to prove it?

Plain-English summary

A full-service advertising and public relations agency asked the Comptroller to walk through how Texas sales tax applies to five typical categories of its billing, for a client based outside Texas but with offices in two Texas cities. The response works through each:

• Monthly retainer fee (account management, media placement, admin): a nontaxable service, unless it's really billing for employee-fabricated property or other taxable items in disguise.
• Annual ad campaign (concepts, layouts, headlines, refined for publication): mixed. Under Rule 3.321(c)(2), all "employee-fabricated property" -- finished artwork, photographs, records, broadcast supplies -- is taxable. But Rule 3.321(e)(3) exempts the agency's charge for preliminary art, as long as the preliminary-art charges are separately stated and identifiable in the agency's own internal records (job codes work). Any preliminary art that gets physically incorporated into the finished art becomes taxable.
• Ad production (getting a selected campaign ready to run): same taxable/exempt split as the campaign charge, plus a specific carve-out for handbills, circulars, flyers, sales catalogs, and brochures delivered by the printer to a newspaper distributor (exempt as newspaper component parts), and the ability to buy pass-through items like film and copies tax-free with a resale certificate.
• Newspaper ad revisions: same treatment as ad production.
• Sales materials/brochures distributed to Texas divisions and an out-of-state corporate office: same employee-fabricated-property split, plus Tax Code § 151.330(a) — materials shipped or mailed directly to a location outside Texas owe no Texas tax (though the destination state may charge its own use tax), while a shipment split between in-state and out-of-state recipients must be apportioned, taxing only the in-state percentage. Shipping records (USPS receipts, etc.) are the proof.

Rule 3.321(f) also spells out the recordkeeping the agency needs: art-time records that clearly separate layout/preliminary art from finished art, easily identifiable employee-fabricated-property records, and — while invoices to clients don't need to itemize taxable vs. nontaxable amounts — the agency must be able to document from its own internal records how much tax is included on any invoice, plus keep documentation for every category of nontaxable deduction (resale, exempt-organization sales, out-of-state shipments, bad debts, etc.).

What this means for you

Advertising and PR agencies

Your retainer/strategy fees are generally exempt, but finished creative work product (art, photos, recordings) is taxable as employee-fabricated property. To keep preliminary-stage work (concepts, layouts, headlines) exempt, you need contemporaneous internal records -- job codes, art-time logs -- that separately track preliminary art from finished art. Sloppy or after-the-fact recordkeeping risks losing the exemption entirely.

Agencies billing multistate clients

Ship printed materials directly to an out-of-state address and keep the shipping documentation, and that portion is exempt from Texas tax under § 151.330(a) (the client may owe their own state's use tax instead). If one shipment goes partly to Texas and partly out of state, you must apportion and tax only the Texas-bound percentage.

Accountants and tax professionals

This letter is a compact, practical walkthrough of Rule 3.321's preliminary-art/finished-art/employee-fabricated-property framework applied to five realistic invoice patterns -- useful as a checklist when auditing or advising an advertising agency's billing practices.

Common questions

Q: Is an advertising agency's retainer fee taxable?
A: No, unless it's actually compensation for employee-fabricated property or other taxable items rather than pure services.

Q: How does an agency keep preliminary art exempt from tax?
A: The charges for preliminary art must be separately stated and identifiable in the agency's own internal records (e.g., by job code) -- and any preliminary art that becomes physically incorporated into the finished art turns taxable.

Q: What if materials are shipped to both Texas and out-of-state locations?
A: Materials shipped directly outside Texas are exempt under § 151.330(a); a mixed shipment must be apportioned, with Texas tax applying only to the percentage actually delivered in Texas, supported by shipping documentation.

Q: Does this bind the Comptroller for my agency?
A: No -- this is an informal 2001 letter answering one taxpayer's specific invoice scenarios, not a modern Private Letter Ruling or General Information Letter, and it cannot be relied on by anyone else.

Citations and references

Statutes:

• Tex. Tax Code § 151.330(a) (exemption for items shipped or mailed outside Texas)

Rules:

• 34 Tex. Admin. Code Rule 3.321(a)(5)(M) (retainer fees)
• 34 Tex. Admin. Code Rule 3.321(c)(2) (employee-fabricated property is taxable)
• 34 Tex. Admin. Code Rule 3.321(e)(3) (preliminary art exemption)
• 34 Tex. Admin. Code Rule 3.321(f) (recordkeeping requirements)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/200110557L

Original ruling text

October 17, 2001

Dear **:

Thank you for using tax.help to request a taxability ruling on advertising
services you provide for a client. You stated the client is located outside of
Texas but has representation in CITY A and CITY B, Texas.

FACTS:

Your company is a full service advertising and public relations agency. The
services provided to this client include marketing, secondary research and
advertising analysis, counseling, strategy planning, development and
supervision of production of advertising, consumer evaluation, planning and
placement of media schedules, creative services, and verification and billing
for all purchases made on your client's behalf.

Invoice Descriptions:

The following scenarios are typical types of services and advertising products
delivered to this client and its divisions. Please be specific to the tax
regulations that apply and what tax should be collected. (Dollars used are for
example purposes only.)

A. Monthly service fee (retainer fee), that includes time spent for account
management, print media placement and administrative fee. Each division is
billed with no tax collected on fee.

Response: Unless related to the sale of employee-fabricated property or the
sale of other taxable items, a retainer is a non-tangible service that is not
subject to sales tax. Please refer to Rule 3.321(a)(5)(M) and (e)(1).

B. Annual Ad Campaign - For each division an ad campaign is developed. The work
that your company does is to develop concepts, layouts, and headlines for three
campaigns with three ads in each campaign. One of the campaigns is selected and
refined for newspapers and magazines used throughout the year by each division.
You bill your client for Creative Agency Services an amount of $1000 plus Texas
sales tax.

Response: The charge appears to contain taxable and nontaxable items.

Rule 3.321(c)(2) states - All employee-fabricated property will be taxable to
the client. Examples of employee-fabricated property include: finished artwork
for print advertising, photographs, records, or supplies used in broadcast.
Sales tax is applicable to the charge to the client by the advertising agency
for employee-fabricated property.

Rule 3.321(e) defines exempt charges and includes preliminary art in Subsection
(e)(3). This section states - Sales tax is not due on the advertising agency's
charge to its customers for preliminary art. To be considered nontaxable, the
charges for all preliminary art must be separately stated and identifiable on
agency's internal records. Any portion of preliminary art that becomes
physically incorporated into the finished art is taxable.

Rule 3.321(f) defines the records that an advertising agency must maintain. The
applicable sections state: (1) Art time records must clearly distinguish layout
and preliminary art from finished art. (3)Employee-fabricated property must be
easily identifiable on agency internal records. Invoices to clients need not
show taxable and nontaxable items separately. (4) The tax due on any invoice
need not be shown, but the agency must indicate on the invoice that tax is
included on those items subject to tax and the agency must be able to document
the amount of tax included on that invoice from its internal records. All
certificates, receipts and/or invoices verifying each deduction from gross
sales of nontaxable items listed below must be kept on file: sales for resale,
sales to exempt organizations, sales to persons using the property in a manner
exempt by law, sales of items which are shipped to out-of-state locations by
the seller, bad debts, repossessions, returned goods, nontaxable labor and
service charges, and sales of nontaxable items.

C. Ad Production - initial production of each newspaper or magazine ad from the
selected campaign. Cost is per ad per city and includes all final production to
get the ad ready to run.

Billed as:
Creative Agency Services: $1000.00
Supplier Charges:
Film, Copies, etc.: $1000.00 *
SUBTOTAL: $2000.00
Texas Sales Tax: $165.00
TOTAL: $2165.00

*Supplier fees include Agency mark-up of 15%.

Response: The response to these charges would be the same as Situation B.
However, there is an exemption for handbills, circulars, flyers, sales
catalogs, brochures, or similar advertising materials that after being printed
are delivered by the printer to the person responsible for the distribution of
the newspaper. The items are exempt as component parts of the newspaper. Also,
you may purchase items that are transferred to your client (e.g., film copies,
etc.) tax free by issuing a resale certificate to your supplier in lieu of the
tax.

D. Newspaper Ad Revisions - each division is billed for charges to updated
weekly ads for such changes as map and listing revisions.

Billed as:
Creative Agency Services: $100.00
Supplier Charges:
Laser Output, etc.: $100.00 #
SUBTOTAL: $200.00
Texas Sales Tax: $16.50
TOTAL: $216.50

The laser output is the Agency internal charge for output/copies.

Response: Same as Situation C above.

E. Design and production of sales materials, i.e. brochure and handouts. Two
types of sales materials are developed; (1) specific to the division and used
only by that division and (2) corporate material that are purchased by the
Atlanta corporate office but are distributed to all divisions as needed.

Billed as:
Creative Agency Services: $1000.00
Supplier Charges:
Printing, Film, Photo, etc.: $1000.00 *
SUBTOTAL: $2000.00
Texas Sales Tax: $165.00
TOTAL: $2165.00

Currently collecting sales tax on all division and corporate work.

Response: Same as Situation B above. Regarding brochures and sales materials
shipped to Atlanta, Section 151.330(a) of the Texas Tax Code states that Texas
tax is not due on materials shipped or mailed outside of Texas. If you ship the
printed materials directly to your client outside of Texas, no Texas tax is due
on the transaction. You should retain shipping documents indicating delivery
outside of Texas as proof the brochures were not taxable. The client may owe
use tax to the state where the brochures are used.

However, if a transaction involves both in-state and out-of-state delivery,
Texas tax is due on the materials mailed to locations in Texas. You should
retain U.S. Postal Service receipts or other shipping documents to substantiate
any out-of-state delivery. The materials subject to Texas tax can be determined
by creating a percentage dividing the total number of items sold (e.g.,
brochures) by the total number of items delivered in Texas.

This opinion is based on the facts presented. Other facts, though similar, may
result in different answers.

I hope this information is helpful. I'll be glad to help you if you have
additional questions. You may e-mail your questions to [email protected].
My direct telephone line is (512) 475-0037. The toll-free number is
1-800-531-5441, ext. 5-0037.

Sincerely,

Lindey Osborne
Tax Policy Division