The taxman cometh for cloud services

Cash-strapped states are enacting new taxes on computing and cloud-based services, opening a possible Pandora's box of confusion and lost cost savings

If you build it, they will come. And hot on their heels will be the tax collectors.

The progress through Congress of the Marketplace Fairness Act, aimed at ending the tax-free status of retailers' online sales, has garnered plenty of consumer and media attention. But there's also been a steady march by economically strapped states to squeeze tax dollars from a venue where consumers are less likely to notice or protest: business-to-business computing and cloud-based services.

Massachusetts is the latest to join this trend: Governor Deval Patrick's proposed budget for fiscal 2014 includes a line item that would expand the state's sales taxes to include "canned software." According to a Forbes report, "at least 14 other states have enacted similar taxes, and as many as 28 have at least some components of what's being proposed in Massachusetts."

CRN, citing a document from the Massachusetts Department of Revenue, says Massachusett's broadly worded "canned software" actually targets custom-designed software and services hosted on the Internet and "would likely include services around code development, modification or testing of existing programs, feasibility studies, the design and installation of computer systems that integrate computer hardware, software and communication technologies, disaster recovery, and similar functions."

In that same article, Momchil "Memo" Michailov, co-founder and CEO of Waltham, Mass.-based data management and protection software vendor Sanbolic, called the new tax an obvious play by the state to tax businesses while not taxing individual consumers. "If they charged taxes on everything, users would be up in arms," he said. "The state is not taxing users for Internet service, even though most bandwidth is used for users' pictures and videos. ... Our customers and partners are staring at the computer screen wondering what will happen. The advantage of the cloud is, people can run a lot of applications efficiently, but it's hard to know where the data and services are."

The Digital Goods and Services Tax Fairness Act, introduced in 2011, would have limited the states' ability to tax "digital goods and services." The bill died in committee, but at least two states, Vermont and Idaho, have passed rules to explicitly exempt cloud-based services from state sales tax.

With laws like these, some states aim to attract businesses seeking to flee the imposition of new taxes -- a point raised by Allen Falcon, CEO of Cumulus Global, a Westborough, Mass.-based cloud services company. In the CRN article, Falcon warned, "Massachusetts has been very aggressive in attracting startups and innovative companies. Certainly, we want to hold onto the talent that we develop at MIT and at other institutions. But this proposed tax would set up a situation that encourages them to drive an hour north into New Hampshire, and hours south into Rhode Island, and over to New York to retain greater profitability. I also think it will chill venture capital."

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