When is a staff leasing arrangement exempt from Texas sales tax, and what happens if the leased employees perform otherwise-taxable services like data processing, security, or collections?

Plain-English summary

A company planned to enter staff leasing contracts covering several kinds of workers: clerical personnel, accounting personnel, manufacturing assembly-line personnel, and workers hired on a "temporary to permanent" basis for accounting/clerical roles or assembly-line production (including "just in time" staffing for peak periods). In every scenario, both the staff leasing company and the client would share employment responsibilities, with the client supervising and directing the workers.

Issue 1 (exemption conditions): Rule 3.364(b) makes staff leasing services exempt from sales tax only if ALL of these hold: at least 75% of the assigned employees were the client's own employees for at least 3 months immediately before the staff leasing contract began; none of the assigned employees previously worked for the staff leasing company itself (unless through a shared employment relationship or an entity that provided/provides taxable services to the client); and a genuine shared employment relationship exists between client and staff leasing company. The Comptroller confirmed: if the client had previously employed at least 75% of these workers for 3+ months, severed that relationship, and then retained them through the staff leasing agency (with a shared employment relationship in place), the arrangement would NOT be subject to sales tax.

Issue 2 (non-qualifying contracts): If a contract does NOT meet Rule 3.364(b)'s conditions, then Rule 3.364(b)(4) applies: any taxable services under Tax Code § 151.0101 performed by the leased personnel become taxable, unless purchased for resale. The letter walks through examples: debt collection (accounts receivable collections), credit reporting (running credit checks), data processing (computer-based payroll/accounts payable/general accounting), security services (building monitoring, visitor badges, badge-scan enforcement), telephone answering (receptionist), real property repair/remodeling (general maintenance), and real property services (janitorial/landscaping) — all taxable if the underlying contract doesn't qualify for the Rule 3.364(b) exemption.

Issue 3 ("temporary to permanent" hiring): This status is a trial/probationary arrangement for the EMPLOYEE, not the job position itself, and doesn't change the taxability analysis above. But if the POSITION itself is genuinely temporary, it's excluded from the "assigned employee" definition — and the service may instead be exempt under Tax Code § 151.057 (governing temporary help services).

Issue 4 (manufacturing labor): When an assembler works on production/assembly of goods being manufactured for ultimate sale, the client manufacturer CAN issue the staff leasing company a resale or exemption certificate for that labor, since it becomes a component part of the item being manufactured for sale.

What this means for you

Staff leasing companies and professional employer organizations (PEOs)

Structure and document your contracts to satisfy Rule 3.364(b)'s full three-part test (75% former employees for 3+ months, no disqualifying prior employment with you, genuine shared employment) if you want the arrangement to be sales-tax exempt — if any part fails, taxable services your leased staff perform (data processing, security, collections, credit reporting, telephone answering, real property services) become taxable unless resold.

Manufacturers using leased assembly-line labor

You can issue a resale or exemption certificate for leased labor that becomes a component part of goods you're manufacturing for sale — this is a distinct exemption path from the Rule 3.364(b) staff-leasing test.

Common questions

Q: When is a staff leasing arrangement exempt from Texas sales tax?
A: Only when all of Rule 3.364(b)'s conditions are met: 75%+ of assigned employees were the client's own staff for 3+ months before the contract, no disqualifying prior employment with the leasing company, and a genuine shared employment relationship.

Q: What happens if the staff leasing contract doesn't meet those conditions?
A: Taxable services performed by the leased personnel (data processing, security, collections, credit reporting, telephone answering, real property services, etc.) become taxable under Tax Code § 151.0101, unless purchased for resale.

Q: Does hiring someone "temporary to permanent" change the tax analysis?
A: Generally no — it's treated as a trial status for the employee, not the position; but if the position itself is genuinely temporary, Tax Code § 151.057 may provide a separate exemption.

Q: Can a manufacturer buy leased assembly-line labor tax-free?
A: Yes, via a resale or exemption certificate, when the labor becomes a component part of tangible personal property manufactured for sale.

Q: Can another company rely on this exact letter?
A: No. This is a Texas STAR letter ruling binding on the Comptroller only for the taxpayer it addresses (34 Tex. Admin. Code Rules 3.1, 3.10); confirm your own facts with a tax professional.

Citations and references

Rules and statutes:

• 34 Tex. Admin. Code § 3.364(b) (staff leasing services exemption conditions)
• 34 Tex. Admin. Code § 3.364(b)(4) (taxable services under a non-qualifying contract)
• Tax Code § 151.0101 (list of taxable services)
• Tax Code § 151.057 (temporary help/employment services)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9709769L

Original ruling text

September 5, 1997

Dear *****:

Thank you for your letter of August 22, 1997, concerning staff leasing
services.

Scenario. Your client will enter into staff leasing contracts for personnel
contracted to perform the following functions:

Clerical personnel who will perform daily clerical tasks such as answering the
telephone, filing invoices, faxing, copying, etc.

Accounting personnel who will perform general accounting duties

Assembly personnel who work within a manufacturing production function and
assemble or assist in the production of items which are being manufactured for
ultimate sale.

Personnel who are hired on a "temporary to permanent" basis. These employees
are contracted to fill a new position such as accounting, clerical, or
accounting clerk. The personnel are hired on a temporary basis with the
understanding that if they meet the job expectation, they will be hired by our
client on a permanent basis. While they are contracted under the staff leasing
contract, they will perform various accounting and clerical functions such as
payroll processing, accounts payable, accounts receivable, billings and
collections and general accounting work. For the most part, all accounting
functions are performed via the assistance of a computer.

Your client will also contract with the staff leasing company to bring in
personnel to work in the assembly line production on a "temporary to permanent"
basis. Whereas, if the contracted personnel meets or exceeds our clients
expectations, they will subsequently retain this person on a permanent basis.

Your client might operate a "just in time" production and assembly line in
which personnel are contracted to work only during peak periods, or when the
need arises.

In all cases, a shared employment relationship exists whereby both the staff
leasing company and our client share employment responsibilities. Our client
will supervise and direct all personnel which are brought in under a staff
leasing contract.

Issues and Concerns. Rule 3.364(b) lists the tax responsibilities of persons
who perform staff leasing services. It further states that sales tax is not due
on staff leasing services if all of the following conditions are met:

At least 75% of the assigned employees providing services under the staff
leasing contract were previously employees of the client company for a period
of a least three months immediately prior to commencement of the staff leasing
contract

None of the assigned employees were employed previously by the company
providing staff leasing services under the contract unless the previous
employment was through a shared employment relationship or by an entity that
previously provided or currently provides taxable services to the client
company.

A shared employment relationship exists between the client company and the
staff leasing company as to the assigned employees Issue 1.

Issue 1. It is my understanding that if our client had previously employed
all, or at least 75% of the personnel, severed their employment relationships
with these employees and then retained these same employees through a staff
leasing agency, the service agreement between our client and the staff leasing
company would not be subject to sales and use tax as long as a shared
employment relationship exists between the two parties. Could you please
confirm that under the current circumstances, this service would not be subject
to sales and use tax.

Response. Correct, presuming that the "75% of the employees" under the staff
leasing agreement worked for the client company for at least 3 months prior to
the agreement and the provisions of Rule 3.364 (b)(1)(B) are met as discussed
in the conditions above.

Issue 2. Rule 3.364(b)(4) states that if a contract does not meet the
conditions for exemption as set out in subsection (b), taxable services as
defined in the Tax Code 151.0101, performed under the contract are subject to
sales tax, unless purchased for resale. Therefore, if personnel are hired
under a staff leasing contract to perform functions which would fall under Tax
Code 151.0101 such as debt collection services (accounts receivable
collections), credit reporting services (running credit checks on prospective
customers), data processing services (payroll, accounts payable, and general
accounting functions on a computer), security services (monitor the building,
issuance of visitor badges, insure employees scan badges before entering the
facility), telephone answering services (receptionist answering incoming
calls), real property repair and remodeling services (general maintenance man),
and real property services (janitor or landscaper), would these services be
considered taxable? Please explain.

Response. If the contract does not meet the specifications in subsection (b),
the taxable services enumerated above would be taxable.

Issue 3. Would a person hired to perform a taxable service (accounting
services on a computer) still be considered a taxable event if hired on a
"temporary to permanent" basis? Please explain.

Response. The "temporary to permanent" basis appears to apply to the employee
as a type of trial employment or probationary status for new employees and not
to the actual job position itself. If this were the case, it would not change
the answers above. If the position itself is temporary it is excluded from the
definition of assigned employee in subsection (a)(1)(A) through (D). However
the service may still be exempt per Section 151.057 of the statute.

Issue 4. When an assembler is working in the production or assembly of a good
which is being manufactured for ultimate sale, can the client company issue the
staff leasing company a resale certificate since the labor is becoming a
component part of the item being manufactured for sale? Please explain.

Response. A manufacturer may issue a resale or exemption certificate for labor
to construct tangible personal property for sale.

This opinion is based on the facts presented. If there are additional or
different facts, the opinion may change.

You may call me toll free at 1-800-531-5441, ext. 5-0613. The direct line is
512/475-0613. You may also write to Tax Policy Division, Comptroller of Public
Accounts.

Sincerely,

Kevin Koller
Tax Policy Division