Is the service fee a mobile lottery-ticket-purchasing app charges users — covering OCR ticket scanning, secure storage, and management of public/private lottery pools — taxable in Texas, and is the licensed retailer's sales commission also taxable?

Plain-English summary

Note: STAR files this ruling under the general "Scanning Services/Electronic Imaging Services" heading because of the OCR-scanning technique at issue, but the actual facts concern a mobile lottery-ticket-purchasing app.

A mobile app lets users in Texas (and other states) buy state lottery tickets from their phone. After a user funds their account and requests a ticket, the app buys a physical ticket from its own licensed-retailer subsidiary, then scans the physical ticket using optical character recognition (OCR), adds a watermarked barcode with the user's name and a serial number, and keeps the physical ticket in a safe while the user can view an image of it in the app. The app also lets users play in public or private "pools" with other users, tracking membership and tickets for each pool. Users are charged a "Service Fee" of 9% of their funding amount plus 29 cents every time they fund their account, regardless of how they pay. The company asked whether that fee is taxable, and separately, whether the licensed retailer's sales commission from the Texas Lottery is taxable.

Texas ruled the Service Fee is taxable as data processing. The core of the app's function — scanning ticket images, storing them, adding identifying barcodes, and creating/maintaining the lists of who's in each public or private lottery pool — meets Texas's definition of data processing (computerized storage, retrieval, and manipulation of information), a category the Comptroller has specifically found OCR scanning to fall into in prior guidance. Even though the app also facilitates the actual ticket purchase, that facilitation function doesn't pull the service out of the taxable category the way some professional-service exclusions can — the OCR scanning and pool management are themselves data processing regardless of what larger transaction they support.

The licensed retailer's commission is not taxable, for a completely different reason: state law (not the sales tax code) sets a minimum 5% sales-agent commission for licensed retailers selling lottery tickets, and simply receiving that statutory commission for selling tickets isn't one of the specific services Texas's sales tax law lists as taxable. The retailer's commission and the app's Service Fee are two separate income streams analyzed under two different bodies of law.

What this means for you

Lottery-ticket and gaming-adjacent mobile app developers

If your app's value includes scanning, digitizing, storing, or organizing records (tickets, receipts, documents) tied to a transaction, that scanning/storage function is likely taxable data processing in Texas — even if the app's headline purpose (like buying a lottery ticket) isn't itself a taxable service.

Licensed retailers and sales agents earning statutory commissions

A commission you earn under a specific statutory compensation scheme (like the Lottery Commission's sales-agent rules) isn't automatically subject to sales tax just because it's tied to a transaction that has taxable elements elsewhere in the chain — the commission itself has to independently match one of Texas's enumerated taxable services.

Accountants and tax professionals

This is a useful two-part ruling: it applies the OCR-scanning-as-data-processing line of authority (STAR 9401L1282B08, Comptroller's Decision No. 46,333) to a novel lottery-app fact pattern, and separately illustrates that a statutorily-mandated commission under an unrelated regulatory scheme (Texas Government Code Chapter 466) doesn't get swept into sales tax just because it arises from the same overall transaction.

Common questions

Q: Why is the Service Fee taxable if it's really just for buying a lottery ticket?
A: Because the app's actual functions in exchange for the fee — OCR scanning of the physical ticket, adding a watermarked barcode, storing images, and building/maintaining lottery pools — independently meet the definition of data processing, regardless of the app's overall lottery-purchasing purpose.

Q: Is the physical lottery ticket itself taxable?
A: No — the ruling doesn't address (and lottery tickets generally aren't) subject to sales tax as tangible personal property; the taxable item here is the app's data-processing Service Fee, not the ticket sale itself.

Q: Does the retailer's commission escape tax because it's a small amount?
A: No — the size of the commission isn't relevant. It escapes tax because receiving a statutory sales-agent commission isn't one of the specific services listed as taxable under Section 151.0101.

Q: Does this ruling apply to my scanning, imaging, or document-digitization service?
A: Possibly, if your service similarly involves OCR scanning plus computerized storage/organization — this is a private letter ruling binding only on the Comptroller as to this taxpayer's specific facts, but the OCR-as-data-processing precedent it applies is broader than just lottery apps.

Citations and references

Statutes and rules:

• Tex. Tax Code § 151.051, § 151.010 (sales tax imposition; taxable item)
• Tex. Tax Code § 151.0101(a)(10), (a)(12) (taxable services, including data processing)
• Tex. Tax Code § 151.0035 (Data Processing Service, definition)
• Tex. Tax Code § 151.351 (20% data-processing exemption)
• 34 Tex. Admin. Code § 3.330(a)(1) (Data Processing Services)
• STAR Accession No. 9401L1282B08 (Jan. 10, 1994) (OCR scanning as taxable data processing)
• STAR Accession No. 200009755L (Sept. 27, 2000)
• Comptroller's Decision No. 46,333 (2009)
• Tex. Gov't Code § 466.358(a) (statutory sales-agent commission for lottery retailers)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/202002033L

Original ruling text

February 18, 2020

RE: Private Letter Ruling No. 20190912081126

Dear **:

We issue this private letter ruling in accordance with Rule 3.1, Private Letter Rulings and General Information Letters.[1] We are responding to your request dated Sept. 6, 2019 and additional information received via email on Sept. 30 and Oct. 1. Detrimental reliance relief is provided in accordance with Rule 3.10, Taxpayer Bill of Rights.

You requested guidance on the taxability of placing an order for a lottery ticket through a mobile software application. You also requested guidance on the taxability of a commission earned by an authorized lottery retailer.

Facts Presented

** (Taxpayer) is a Delaware corporation headquartered in New York that offers a mobile software application (App) to purchase lottery tickets for consumers physically located in Texas, and other states. An Application User (User) must create an account in the App and confirm his or her identity, age, and location. User must fund the account via ACH, PayPal, or debit card prior to placing an order for a lottery ticket (Ticket). Taxpayer’s Terms of Service indicate that User is charged a Service Fee upon funding their account. Taxpayer imposes a Service Fee of 9 percent of the funding amount plus 29 cents regardless of the User’s method of funding the account.

Taxpayer geo-locates User to ensure User is in the same state as the lottery game the User is playing at the time of purchase. Taxpayer’s website indicates that User may select their own lottery numbers or have the App select the lottery numbers through a Quick Pick and Users may play in public or private pools. When User places a Ticket order, Taxpayer debits User’s account for the value of the Ticket. Taxpayer purchases a physical Ticket for User from its wholly owned subsidiary, **, LLC, a licensed lottery retailer (Licensed Retailer) located in CITY, Texas. Licensed Retailer earns a commission (Commission Revenue) from the sale of Texas Tickets from the Texas Lottery.

Taxpayer scans an image of the physical Ticket using optical character recognition (OCR) and adds a watermarked barcode with User’s name and a serial number. Taxpayer sends User an order confirmation email upon purchasing a Ticket and a separate email containing the relevant Ticket information including the watermarked barcode and serial number. Taxpayer retains physical possession of the Ticket by placing it in a safe. User may access an image of the Ticket within the App.

Taxpayer monitors the game drawing results for User. Distribution of User’s lottery winnings depends on the amount User wins. If User wins less than $600, Taxpayer automatically redeems User’s Ticket from Licensed Retailer and credits User’s account for the winnings. User may withdraw and transfer the winnings to User’s bank account. If User wins $600 or more, Taxpayer arranges for a transfer of the physical Ticket to User.

Questions, Rulings, and Analysis

Our restatement of your questions is shown below, followed by our responses and analysis.

Question One: Is the Service Fee that Taxpayer charges Users upon funding an account taxable?

Ruling One: Yes, the Service Fee is taxable data processing.

Analysis for Question One: Texas imposes a sales tax on each sale of a taxable item in this state. Section 151.051 (Sales Tax Imposed). The term “taxable item” includes tangible personal property and taxable services. Section 151.010 (Taxable Item). The term “taxable services” includes only those services listed in Section 151.0101 (Taxable Services). Data processing services is listed as a taxable service. Section 151.0101(a)(10), (12). Twenty percent of the charge for a data processing or information service is exempt. Section 151.351.

Data processing services “includes word processing, data entry, data retrieval, data search, information compilation … and other computerized data and information storage or manipulation.” Section 151.0035 (Data Processing Service). Rule 3.330(a)(1) further defines data processing services as “the processing of information for the purpose of compiling and producing records of transactions, maintaining information and entering and retrieving information. It specifically includes … computerized data and information storage or manipulation.” See Rule 3.330(a)(1).

Taxpayer services include scanning an image using OCR and adding a watermarked barcode to the image. Storage of these images meets the definition of data processing. The Comptroller has also determined OCR scanning to be taxable data processing. STAR Accession No. 9401L1282B08 (Jan. 10, 1994). See also Comptroller’s Decision No. 46,333 (2009); STAR Accession Nos. 200009755L (Sept. 27, 2000) and 9401L1282B08 (Jan. 10, 1994); see Section 151.0035.

In addition to maintaining and storing Taxpayer’s records, including ticket images, the services Taxpayer provides include playing in public or private lottery pools. Taxpayer allows users to create a private group where only select members are allowed to participate. Taxpayer further maintains the list of the private group members and their lottery tickets. Taxpayer also maintains the public group pool list of members and the lottery tickets for that pool. Both the creation and maintenance of the public and private pools are data processing. See Rule 3.330(a)(1).

Taxpayer’s services do not fall within the exclusions of Rule 3.330(a)(1). The exclusions in Rule 3.330(a)(1) concern data processing to facilitate a professional or unrelated service. Although Taxpayer facilitates Ticket purchases, OCR scanning and the creation and maintenance of lottery pools are taxable as data processing services.

Question Two: When Taxpayer purchases physical Tickets from Licensed Retailer, is Licensed Retailer’s Commission Revenue taxable?

Ruling Two: No, Commission Revenue is not taxable under Chapter 151.

Analysis for Question Two: Texas imposes a sales tax on each sale of a taxable item in this state. Section 151.051 (Sales Tax Imposed). The term “taxable item” includes tangible personal property and taxable services. Section 151.010 (Taxable Item). The term “taxable services” includes only those services listed in Section 151.0101 (Taxable Services).

Texas Government Code Section 466.358(a) (Compensation of Sales Agent) provides compensation to sales agents for the sale of Tickets which may not be an amount less than five percent of the retail price of the Tickets sold plus, at the discretion of the director or lottery operator supervising the lottery game involved, an incentive bonus based on attainment of sales volume, the redemption of winning Tickets, or other objectives specified by the director or lottery operator for each type of lottery.

Licensed Retailer is a sales agent or sales agency under Texas Government Code Chapter 466. Taxpayer purchases Tickets from Licensed Retailer on behalf of Users. Licensed Retailer earns Commission Revenue from the Texas Lottery for Tickets sold at its location in CITY, Texas. Taxpayer is not performing a taxable service listed under Section 151.0101 and Commission Revenue is not subject to Texas sales and use tax.

Comptroller’s Decisions and STAR documents cited can be found on the Comptroller’s State Tax Automated Research (STAR) system. The Texas Tax Code, Texas Administrative Code, and the STAR system are accessible at www.comptroller.texas.gov/taxes/.

If you have questions about this private letter ruling, please email us through our website at https://comptroller.texas.gov/web-forms/tax-help/ and reference Private Letter Ruling No. 20190912081126.

Sincerely,

Tax Policy Division – Indirect Taxes

Texas Comptroller of Public Accounts

[1] Unless otherwise indicated, all references to “Section” are to the Texas Tax Code, and all references to “Rule” are to Title 34 of the Texas Administrative Code.