My company processes prescription drug claims (all processing work done in Arizona) for both insurance carriers and self-insured employer plans, with members and carriers/plans located in different combinations of in-state and out-of-state. When is this claims-processing service subject to Texas sales tax?

Plain-English summary

A corporation processed prescription drug claims (all processing activity performed in Arizona) for both insurance carriers and "non-insurance carriers" — companies with self-insured plans covering their own employees. When a covered member filled a prescription, they'd pay a small co-payment, the processor would front the rest, then bill the member's insurance carrier or self-insured plan an administrative fee once the claim was processed. The taxpayer asked how Texas sales/use tax applies across three combinations of where the member and the carrier/plan are located, plus whether the service might instead be a taxable "data processing service."

Insurance-policy claims, Texas-resident member, carrier licensed (or required to be licensed) under the Texas Insurance Code — TAXABLE. Under Tex. Tax Code § 151.0101(a)(9), "insurance services" (including insurance claims processing — supervising, handling, investigating, paying, settling, or adjusting claims) are a broadly defined taxable service. Rule 3.355(d) ties taxability to where the object of the service (the covered member) is located, plus whether the company for whom the service is performed is an insurance carrier (or, if not, doing business in Texas). Because the member is in Texas and the policy is with a carrier licensed under Texas insurance law, this claims-processing charge is taxable — regardless of whether the processor itself, or even the carrier, is physically located in Texas.

Insurance-policy claims, member located outside Texas — NOT TAXABLE, even if the carrier is Texas-based. Rule 3.355(d) requires the object of the service (the member) to be in Texas for the service to be taxable. If the member lives elsewhere, the claim-processing charge escapes Texas tax even when the insurance carrier itself is a Texas company.

Self-insured plan claims — NEVER TAXABLE as an insurance service, regardless of member location. A "self-insured plan" (an employer maintaining its own funds for employee benefits rather than buying insurance) is specifically defined under Rule 3.355(a)(8) and is not considered a policy of insurance for sales tax purposes. Rule 3.355(b) explicitly states that insurance services "performed pursuant to a self-insured plan or for third-party administrators handling distribution of funds under a self-insured plan are not taxable" — full stop, regardless of where the member lives.

Using a computer to process the claims isn't a separate taxable "data processing service." Data processing services (entry/retrieval of information, payroll, business accounting, etc.) are generally taxable under Texas law, but Rule 3.330(a) confirms that using a computer merely to facilitate claims processing doesn't turn the underlying claims-processing charge into a taxable data processing service. The computer cost is simply part of whatever the claims-processing charge already is (taxable insurance service, or nontaxable self-insured-plan service) under Rule 3.355(g).

What this means for you

Third-party claims administrators and prescription benefit managers

Track your taxability by two facts on each claim: (1) is the coverage a genuine insurance policy or a self-insured employer plan, and (2) where does the covered member live? Where your own processing operations are physically located (even out of state, as here in Arizona) doesn't affect Texas taxability at all.

Self-insured employer plans and their third-party administrators

Claims processing performed under a self-insured plan is categorically exempt from Texas sales tax as an insurance service — this is a bright-line rule, not a facts-and-circumstances test, because a self-insured plan isn't legally a policy of insurance.

Insurance carriers and administrators structuring multistate claims operations

The Texas-resident-member test cuts both ways: a Texas-based carrier's claims for an out-of-state member are not taxed, while an out-of-state carrier's claims for a Texas-resident member (if the carrier is licensed or required to be licensed here) ARE taxed. Don't assume carrier location controls the answer.

Accountants and tax professionals advising benefits/insurance administration clients

This letter cleanly separates three overlapping Texas tax concepts that often get conflated: taxable insurance services (Sec. 151.0101(a)(9)/Rule 3.355), the self-insured-plan carve-out (Rule 3.355(a)(8)/(b)), and taxable data processing services (Rule 3.330) — confirming that computer-facilitated claims work doesn't independently trigger the data-processing category.

Common questions

Q: Is processing insurance claims for a Texas resident always taxable?
A: Only if it's under a real insurance policy from a carrier licensed (or required to be licensed) under the Texas Insurance Code — not if it's a self-insured plan.

Q: Is processing claims for an out-of-state member ever taxable, even if the insurance carrier is based in Texas?
A: No — the member (object of the service) must be located in Texas for the claim-processing charge to be taxable.

Q: Is claims processing for a self-insured employer plan ever taxable as an insurance service?
A: No — self-insured plans are not policies of insurance under Rule 3.355(a)(8), so claims processing under them is not taxable, regardless of where the member lives.

Q: Does using a computer to process claims make the charge a taxable data processing service instead?
A: No — Rule 3.330(a) confirms that using a computer to facilitate claims processing doesn't convert it into a separate taxable data processing service; the computer's cost is folded into the underlying (taxable or nontaxable) claims-processing charge.

Q: Does it matter that the claims processor does all its work in Arizona rather than Texas?
A: No — the processor's own location doesn't drive the analysis; what matters is the covered member's location and whether the coverage is a real insurance policy or a self-insured plan.

Q: Can I rely on this letter for my own claims-processing business?
A: No. This opinion is based on the facts presented, and if there are additional or different facts, the opinion may change; it can be relied on only by the taxpayer it was issued to.

Citations and references

Statutes and rules:

• Tex. Tax Code § 151.0101(a)(9) (insurance services as a taxable service)
• 34 Tex. Admin. Code Rule 3.355(a)(5) (insurance claims processing defined)
• 34 Tex. Admin. Code Rule 3.355(a)(8) (self-insured plan defined; not a policy of insurance)
• 34 Tex. Admin. Code Rule 3.355(b) (self-insured plan services not taxable)
• 34 Tex. Admin. Code Rule 3.355(d) (taxability tied to location of object of service and carrier's Texas licensing/business status)
• 34 Tex. Admin. Code Rule 3.355(g) (computer costs as part of the claims-processing charge)
• 34 Tex. Admin. Code Rule 3.330(a) (data processing services — computer use to facilitate claims processing is not separately taxable)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9902245L

Original ruling text

February 5, 1999

Dear **:

Thank you for your recent letter concerning the Texas sales and use tax
responsibilities of a corporation processing prescription drug claims for
members covered by insurance policies and self-insured plans.

Information Provided:

A corporation (Taxpayer) contracts with both insurance carrier companies
(insurance carriers) and non-insurance carrier companies (non-insurance
carriers) to process prescription drug claims for their members. The
non-insurance carrier's are typically companies that have a self-insured plan
for the benefit of their employees. When a member has a prescription order
filled, the member is required to make a co-payment at the time of purchase.
This payment is normally a fixed amount and is usually only a fraction of the
cost. The Taxpayer will immediately pay the remaining balance and then begin to
process the claim on behalf of the member to the member's respective company to
which he/she has enrolled in a plan with. All processing service activities are
done within the state of Arizona by the Taxpayer. Once the claims processing
activity is complete, the Taxpayer will receive a fee (sometimes referred to as
an administrative fee) from the member's company for the claim processing
service.

There are three distinct fact patterns under which the Taxpayer provides its
insurance claims processing services: (1) both the member and the insurance
carrier/non-insurance carrier are located within Texas; (2) the member is
located within Texas and the insurance carrier/non-insurance carrier is located
outside of Texas; and (3) the insurance carrier/non-insurance carrier is
located within Texas but the member is located outside of Texas.

Discussion

Both the Insurance Carrier and the Member are Located in Texas

Pursuant to Texas Code ß 151.0101(a)(9), taxable services are broadly defined
to include insurance services. For these purposes, insurance services include
"insurance loss or damage appraisal, insurance inspection, insurance
investigation, insurance actuarial analysis or research, insurance claims
adjustment or claims processing, or insurance loss prevention services."

Texas Administrative Code ("TAC"), Rule 3.355(d) states that "an insurance
service will be subject to taxation in Texas if the individual, entity, or
property which is the object of the service is in Texas and the company for
which the services are performed is either an insurance carrier as that term is
defined in subsection (a)(7) of this section, or if not an insurance carrier,
is doing business in Texas. Additionally, if the services are performed on
behalf of an insurance carrier, its insured, its policyholders, or others
pertaining to a policy or policies of insurance for monetary fees, it is
considered taxable. Under TAC, Rule 3.355(a)(5), insurance claims processing
services include "any activities to supervise, handle, investigate, pay,
settle, or adjust claims or losses."

When a member, who is located in Texas, has a drug prescription filled pursuant
to the terms of a plan which has been entered into by and between the member
and a Texas based insurance carrier, the Taxpayer will begin to process the
claim to the respective insurance carrier on behalf of the member. It is your
assertion that the claim processing performed by the Taxpayer constitutes an
insurance service and is subject to Texas sales or use tax since the claim
processing service is performed pursuant to an insurance policy, the member is
located in Texas and the insurance carrier is located in Texas and is licensed
or is required to be licensed under the Insurance Code of Texas.

The Insurance Carrier is Located Outside of Texas, but the Member is Located in
Texas

As previously stated, under Rule 3.355(d), the individual which is the object
of the service must be present in Texas and the insurance carrier must be
required to be licensed under the Texas Insurance Code in order for the
insurance service to be taxable. Again, the definition of insurance service
includes insurance claims processing.

It is your assertion that when a member who is located in Texas has a drug
prescription filled pursuant to the terms of a plan which is entered into by
and between the member and an out-of-state insurance carrier that is licensed
or is required to be licensed under the Texas Insurance Code, the claim
processing performed by the Taxpayer constitutes an insurance service and is
subject to Texas sales or use tax.

The Insurance Carrier is Located in Texas, but the Member is Located outside of
Texas

Rule 3.355(d) states that insurance services will be subject to taxation in
Texas only when the individual, entity, or property which is the object of the
service is in Texas. Again, the definition of insurance service includes
insurance claims processing in which the activity of supervising, handling,
investigating, paying, settling, or adjusting claims or losses occurs.

When a member, who is located outside of Texas, has a drug prescription filled
pursuant to the terms of a plan which is entered into by and between the member
and insurance carrier licensed or required to be licensed under the Texas
Insurance Code, the Taxpayer processes the claim to the respective insurance
carrier on behalf of the member. In this situation, because the member which is
the object of the service is located outside of Texas, it is your assertion
that the insurance claims processing activity performed by the Taxpayer is not
subject to Texas sales or use tax.

Claims Processed to a Non-Insurance Carrier

For purposes of this ruling request, the term "non-insurance carrier" is used
to refer to a company that maintains a self-insured plan for the benefit of its
employees. Pursuant to TAC Rule 3.355(a)(8), a "self-insured plan" is defined
as a "plan whereby an employer maintains funds for providing employee benefits
rather than transferring risk by purchasing insurance from an insurance
carrier." Importantly under Texas law, a self-insured plan is not considered a
policy of insurance for sales and use tax purposes.

Texas law provides that the performance of insurance services, including claims
processing services, which pertain to a policy or policies of insurance are
taxable. However, because a self-insured plan is not considered a policy of
insurance under Rule 3.355(a)(8), it is your assertion that the claim
processing services performed by the Taxpayer on behalf of non-insurance
carriers (i.e., self-insured plans) are not subject to the Texas sales or use
tax. Moreover, this assertion is supported under Rule 3.355(b) which
specifically states that insurance services "performed pursuant to a
self-insured plan or for third-party administrators handling distribution of
funds under a self-insured plan are not taxable."

Data Processing Services

Under Texas law, data processing services are taxable services subject to Texas
sales and use taxation. Pursuant to a Texas regulation, "data processing
services means the processing of information for the purpose of compiling and
producing records of transactions, maintaining information, and entering and
retrieving information. It specifically includes word processing, payroll and
business accounting, and computerized data and information storage or
manipulation. The charge for data processing services is taxable regardless of
the ownership of-the computer. Examples of data processing services would
include the entry of all inventory control data for a company, maintenance of
records of employee work time, filing payroll tax returns, preparing W-2 forms,
and computing and preparing payroll checks.

It is your understanding that the claims processing performed by the Taxpayer
does not constitute a data processing service as defined under Texas
regulation. Consequently, you assert that the services performed by the
Taxpayer are not subject to Texas sales or use tax.

The processing of claims on behalf of members who are residents of Texas
pursuant to a policy of insurance issued by a Texas-based insurance carrier is
subject to Texas sales or use tax. See Rule 3.355 (a)(5) and (d).

Comptroller Response

The processing of claims on behalf of members who are residents of Texas
pursuant to a policy of insurance issued by an insurance carrier that is
licensed or is required to be licensed under the Texas Insurance Code is
subject to Texas sales or use tax. See Rule 3.355 (a)(5) and (d).

The processing of insurance claims on behalf of members who reside outside of
Texas pursuant to a policy of insurance issued by a Texas-based insurance
carrier is not subject to Texas sales or use tax. See Rule 3.355(d).

The processing of insurance claims pursuant to a self-insured plan is not
subject to Texas sales or use tax. See Rule 3.355(b) and (g).

The processing of insurance claims is not subject to Texas sales or use tax
under the data processing services classification. A use of a computer to
facilitate the processing of claims is not a taxable data processing service.
See Rule 3.330(a). The cost incurred by the claims processor for use of the
computer is part of the charge for processing the claims. See Rule 3.355(g).

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

You may call toll-free 1-800-531-5441, extension 3-4683, if you have any
questions or need more information. My direct line is 512/463-4683. You may
write to Tax Policy Division, Comptroller of Public Accounts, P.O. Box 13528,
Austin, Texas 78711-3285.

Sincerely,

Eddie C. Washington
Tax Policy Division