Hosts & Guests
Meredith Smith, Senior Tax Manager, SALT
Judy Vorndran, Lead Partner, SALT
Carolynn Kranz, Managing Member, Kranz & Associates
Digital Goods and Advertising Taxes with Carolynn Kranz
Meredith Smith: Welcome to SALTovation. The SALTovation show is a podcast series featuring the leading voices in SALT, where we talk about the issues and strategies to help you make sense of state and local tax. Today, we are joined by Carolynnn Kranz, a managing member of Kranz & Associates, a Washington DC law firm that specializes in state and local tax.
Carolynn has over 20 years of experience in SALT, much of that with the big four accounting firms prior to establishing her business. or she joined us to discuss digital taxation and help us understand what these taxes are and the impact they have on businesses.
Carolynn, thank you so much for joining us today and sharing your knowledge. Effective related to the taxation of those items that are no longer tangible. So kind of starting out, we wanted to ask you, how has the issue of taxing digital goods evolved and where are the states headed? And don't worry, we're not holding you to anything.
[00:00:59] Judy Vorndran: And this was ever expect you to protect anything a state could do.
[00:01:02] Meredith Smith: Or this is a moment in time. So we will certainly timestamp.
[00:01:07] Carolynnn Kranz: Well, no, I, I think the point that you just made is it's moment in time and a technology is ever evolving. You know, that's, that's the issue we have. And so the states don't know where to head with this type of stuff.
You know, I think back, I think the one state that tried to predict where it would go would be Washington state, you know, in 2010, they had sweeping. Largely brought about by representative hunter who had previously worked with Microsoft and they recognize the technology changed constantly. So whatever they enacted today would possibly be obsolete tomorrow by tomorrow's technology.
So they put together a. To tack something, they called it digital automated services. It's really the only legislation we've seen of that nature. And it was really meant to capture anything technology related, but then what they did is they created all of these carve-outs and exceptions so that they weren't arguably.
Banding the tax base, but the problem is the devil's in the details. The exceptions became obsolete, right? Or subject to interpretation. I'd say most of the controversy we see in Washington is a brown there exceptions and what those exceptions mean. So where the states are heading is, is true. You know, I think some states have really come in and drawn a line in the sand and said, we're not really going after anything new, unless it's purely a tangible equivalent.
So the most traditional being books, music, movies, right. Some have gone a step further. And they're trying to tax a form of staff being remotely accessed software or pre-written computer software. That's getting dicier from what I'm seeing in my practice, because where they were historically going after the software that you traditionally loaded onto a desktop or laptop, they're now going after something that has much more of a service component.
And then of course, you know, and I'm sure it will inevitably come up in today's discussion is states sort of going after, you know, digital advertising and things of that nature. Do you think
[00:03:19] Judy Vorndran: that that's partly driven by the fact that these things are annuities and they want the money for it? I mean, what do you think the, the history is of all that with the Microsoft example, um, in Washington?
[00:03:30] Carolynnn Kranz: I think in this instance, the, the issue is that for years, All of these items really did have a form of a tangible equivalent. Right. And therefore they were part of a tax base. So we're seeing an eroded tax base. So think about it. I mean, I'm old enough to remember. When VCRs came into play and a big Friday night highlight going to a store and picking out a video and bringing it to the one's friend's house who had a VCR.
[00:04:00] Right. And today, you know, it's interesting because, you know, I go to the grocery store and I see the red box rental there where you can get a DVD. And my son sees that he's like, mom, and I'm like, oh no, honey, we have. Subscription plus subscription. We can just, or an Amazon prime. Right? We have a mall. I mean, I don't even have cable anymore.
[00:04:21] Right. I, you know, we stream everything, but we are not, we don't watch a lot of TV in our household. We're too darn busy. With life, which is, which is a good thing. Right? So, so I think it's really an erosion of the tax space, things that were historically taxed or are no longer being taxed. And, and so the states want, still want that piece.
[00:04:42] Right. Um, but, but it also begs to the question of, well, why are you going after a service? You did not traditionally tax merely. Because it's labeled software as a service and there is a software component. So you know it again, playing devil's advocate, it goes both ways. It's
[00:05:00] Meredith Smith: interesting that you talk about like eroding the taxpayers.
[00:05:03] Cause often you times, you know, from an income tax perspective, you see, you know, states from a, from a policy perspective, they're going to reduce the income tax rate, but then try to kind of make up the money on an income tax side with kind of expanding the tax based on sales tax. So. You know, it's that push pull of?
[00:05:25] Like, is it a roading? Is it expanding? Are you, you know, like Colorado is now going to tax Netflix where, you know, historically, you know, they would tax eBooks, you know, at the state. So they always took that kind of position of the, it was. It's akin to its tangible format. And now we're just going to like, even if you get a digitally, it's still a book kind of the same thing.
[00:05:50] And which is, I'm guessing their, their perspective on the Netflix. Right? Judy, where it's, you know, we used to tax the rental at blockbuster. But then, you know, we can't anymore because walk Lester doesn't exist. And my brother used
[00:06:04] Judy Vorndran: to work there. So we would go in there and get like, kind of the deals. He always knew the deals.
[00:06:11] And there were a client of mine at Deloitte. Like we did all their sales tax returns nationally. I mean, that was. Client from a sales tax outsourcing standpoint because they collected a lot of sales tax over the years. And now where are they? And I remember working with Netflix, like they were my client years ago.
[00:06:27] And it was like, is that physical presence to have your discs that you still own sitting in my house? You know? And so is that a tax collection responsibility? And I remember them having to get in front of that and then they pivoted to. What the heck do you do with that? What's the tax. I remember them sending it to, I I'm at a Netflix subscriber since I had them as a client.
[00:06:46] So 15, 20, I mean, a long time when they were really sending desks and I had three, three deaths a month. Right. And then I, you know, the streaming thing and they're saying, what streaming, what streaming be aware of it? And I'm thinking, what is streaming? Right? I'm used to the disc, but now hello. And now everybody's streaming something new.
[00:07:03] Now you got to subscribe to you say, Disney, if you want to watch anything, you got to buy all of them.
[00:07:08] Meredith Smith: I had a babysitter come over and she's like, oh, you, you guys still have DVDs. I was like, yes. When your internet goes out and you have children that want to watch marijuana, you have 47 different ways to watch my one it's downloaded on the iPad.
[00:07:22] You can stream it. If your internet is working or you have the disk. And assuming that like, you know, your DVD player, that's 15 years old.
[00:07:30] Judy Vorndran: Doesn't, you know, kick the bucket. Yeah. That's funny. Cause my, I mean, we at dis for my, my youngest daughter is 14 now. So, I mean, I have a ton of movies from when she was little cause we play 'em all the time.
[00:07:40] So it's kind of funny. I mean, that's only in the last 14 years, really like 10, probably so kind of interesting. So that's and you're right. We have a city here. Uh, we have all the home rule cities in Colorado and Lakewood was very dependent on the telecom taxes. And now with mobile. W where's the tax occurring, right.
[00:07:58] Does everybody live in Lakewood? Nope. So they were really dependent on, like you said, the Comcast, the Xfinity, all the cable streaming and the, and then the, um, the phone service will no, one's got a phone anymore. So at home, so it's, it's a shift and a lot of these local jurisdictions counted on that tax base and it was huge money for them.
[00:08:17] So that's why you're seeing this change. So do you think that the gentleman from Microsoft, the reason he went after the. 'cause he just saw it as a revenue stream and we need to figure out how to define it so we can tax.
[00:08:27] Carolynnn Kranz: Well, I think in that instance, you know, they were seeing an erosion of the tax base because of new technologies.
[00:08:33] Right? So we want to make sure we're taxing, you know, when they did, when they made that law change, not only did they text digital automated services that was in conjunction with their taxing of digital products and remotely access software. So those were both specifically enumerated in their, in their statutes as being taxable and DAS was really meant to be that catch all.
[00:08:55] What are we not thinking about? What, what would we be taxing today that might have a new model tomorrow? So that was really what that was intended to do and what they were going after. So I, again, if you looked at the original drafts of it and you look at. All of the exclusions that existed, they really were trying, you know, there's, carve-outs for data processing, there's carve-outs for services that involve principally human efforts.
[00:09:21] So those are all there. So they were trying to maintain that base. I, you know, and unfortunately my experience in more recent years is they are. The department today is getting more aggressive on their interpretations of what fit into those exceptions. And that's where, you know, in my practice, a lot of my controversy lies, right.
[00:09:40] Or when I'm working with clients, my practice lies is do you fit into, you know, everybody fits into DAS at the high level, then the question is, do you fit, do the exceptions of, do you cleanly fit into. And that that's the challenge. Well, we've
[00:09:55] Judy Vorndran: been in Washington specifically how they source we've had a huge issue where we have a client that is a coupon Redeemer, right?
[00:10:02] So you go in, you use the coupons online and they get paid the client from the manufacturer. Well, may adventures, aren't sitting in the state of Washington. The redeemers are they go in and buy their gallon of milk, whatever they get a coupon and money is made and paid by the manufacturer, maybe out of Michigan to my client and other states.
[00:10:21] For redemptions in Washington and Washington tax that, I mean, we had to fight them and we're like, okay, what are we going to do? It's not enough money to go to court. Right. And so we're going to have to figure out how to pay the tax on it, which I thought was a really extreme view from the state of Washington in particular.
[00:10:37] Carolynnn Kranz: Well, I think with Washington, there's two things to keep in mind in the digital space. One, you know, and kudos to Washington for this. When they enacted attacks on DAS, that's what I referred to digital automated services as VAs digital products and remotely access software on the sales tech side. They recognize that these are products that could be concurrently available for use in multiple jurisdictions.
[00:11:00] They also simultaneously, um, inacted and, and provided for their remote access exemption certificate, which gives the purchaser the ability to issue an exemption certificate. Get the sellers off the hook. They're protected. The purchaser accrues where uses is occurs. Right. And obviously, That's a slippery slope, but on the BNO tax side, right.
[00:11:23] That seller who sold it, you know, so the B and O tax, is there sort of gross receipts tax also reported on the excise tax return? The same return that the sales tax is reported on? The question is, is how do you do that site a thing for that, right? Because Washington does want to look through the transaction.
[00:11:41] So if you're. Selling a, a service to somebody and, and the benefit is derived, not necessarily by the customer, but the customer's customers. Right. They're going to, they're going to look through that. And that gets tricky because how much. Information you have or maintain as the seller gets, gets tricky.
[00:12:03] And then they enacted all those changes with their cytosine regime, with the portions, they flipped into it, a little bit of an income tax spin and even added a little throwback rule with respect to it, which, and then you have pure sales tax, people handling these issues and they have no idea what any of these concepts are and how to apply them.
[00:12:22] So it's. It's interesting. So again, kudos to them on one, it gets trickier on the other end. You know, my experience on audit is they, you know, they, they can be quite reasonable. It's just, you know, you need to, you need to have your ducks in a row and explain what you're doing and make sure there's a justified basis and make sure you're consistent with it.
[00:12:42] Not just with respect to Washington bill, to customers, but other
[00:12:46] Judy Vorndran: customers. Oh yeah. Well, and as an, even the thought process around sourcing and all that, like still what a kerfuffle, that's my new word to figure out as a taxpayer. Like, how the heck am I supposed to know all this? Get all these documents and support it this way.
[00:13:00] I'm just doing business. I'm just selling this. I just want to send my invoice and get my money. I mean, that's, I think the hardest part logistically is really how to manage these roles and the finesse of it. Well,
[00:13:11] Meredith Smith: and I think that's a good transition point to just the, how are we going to do this of, you know, talking about advertising taxes and what, you know, Maryland has been the first to do, and some states are trying to do and whatnot.
[00:13:26] So kind of with that advertising taxes, why now, and then why is there a reason Maryland was first? And then, you know, can you maybe talk about. Why it's being
[00:13:40] Carolynnn Kranz: challenged. Yeah. So there's a little bit of a backstory here with respect to Maryland's. So professor Roemer, who is a Nobel Laureate, economist wrote an op-ed in the New York times, right.
[00:13:56] Regarding, regarding the fact that. You know that the states should be doing this right. That these free platforms shouldn't really exist. Right. That they're, they're a bit misleading. And, um, and a legislature from the state of Maryland read that op-ed and sort of ran with it. You know, what's interesting about this is there was a.
[00:14:18] A lot of testimony in Maryland as these bills were being considered by a lot of interested parties who warned Marilyn, that their approach to this tax was unconstitutional, that there were a variety of issues with what they wanted to do. And, and, you know, I'd like to think to some degree, this is why no other state has yet to enact attacks, right.
[00:14:45] A similar tax, you know, unlike if we. You know what happened in, you know, when, when some states take that first step, a lot of other states follow suit. I mean, some states are considering it, but they haven't done it. Um, it is being challenged, right? There are cases that have been filed, challenging it unconstitutionality, um, Maryland has delayed the effective dates of this.
[00:15:07] I mean, so there's a lot of different moving parts here because there are a lot of problems with what has been proposed and, you know, sitting back from this as a practitioner, I'm hoping at some point, everybody sees the light. You know, I remember years ago in Maryland enacted attacks on computer services and it was repealed before it was effective.
[00:15:28] Michigan did the same and it repealed a few days after, and there weren't any constitutional issues in that. Bad for business. Right. And, and so, you know, I think this is something that's a watch and see I'm hopeful. Other states are going to sit here and watch and not do anything and wait until the fall out occurs.
[00:15:48] Otherwise I think we're going to be dealing with a lot of controversy in a lot of states and. It's going to be rather tricky. And I know even with what Maryland did, they, they did not, you know, there are a lot of unanswered questions as to when it is enacted, how are the computations occurring? What is going to take place?
[00:16:08] And, and, you know, we could go down a lot of rabbit holes with them. It's it? You know, in my experience, it's not always worth going down those rabbit holes because. So many uncertainties here, but, um, it, it is just, uh, another instance where we've seen states kind of grasp on to new technologies and go in a, in a different direction.
[00:16:28] You know, I guess kudos for creativity, but enacting an unconstitutional tax is not good for anyone. And it creates a lot of problems down the road. Well, I think about
[00:16:39] Judy Vorndran: like, we do use tax reviews for clients. So we'll look at all their purchase and we're sorta surprised, like people spend a lot of money on Facebook ads.
[00:16:46] I mean, I have a client it's like $300,000 a month on Google words, like to be found on the internet 300. Thousand I'm like, wow. So, and there is a huge amount of money. You probably know Expedia and the travel industry. I mean, all of these places make money by putting things out there that you click on and you consume, right.
[00:17:08] I'm going to book a room at the Marriott, the Marriott's advertising a lunch bunch of different places. And then when you booked that room, the Marriott pays somebody. Forgetting that ad out there so that you and I saw it when we were Googling, going to Austin, which I'm going to tomorrow for IPTs, uh, first in-person conference.
[00:17:25] Well, it was the first, maybe the second, right? It's the annual conference I'm going to, um, and also I'm going to actually take the CMI exam for income taxes. Um, so that should be interesting. Um, but needless to say, I think that's a really difficult thing to source even for income tax purposes. I mean, we have clients, like I was mentioning to you before the one that had the coupon redemption in Washington, sort of crazy, just thinking that Washington get there there's money around because of those redemptions, but not from the redeemers right.
[00:17:52] Not the customer, but from the facture, we have other situations where large companies will buy a bunch of advertising and they have stores and things everywhere, but they're buying all this stuff, get it out there, tell people to buy our stuff. And then they get paid by the company out of California, say for example, but those ads are running all across the nation.
[00:18:12] How are you going to source that you're paying your buyers in California, your ads are nationwide. How would we even deal with this? So I really found it fascinating that Maryland Eva went down that rabbit hole. Because as you think about this, when you get clients right with their books and records, how the heck am I going to, how are they going to be a voice for it?
[00:18:33] How are they going to do it? I really find it to be almost an impossibility. And then you're saying the thing with Washington. I mean, I just think from a practical standpoint, you get paid on the com is kind of how a lot of these places work, right? This advertisers, they get paid a percentage of transactions that consummate in a sale.
[00:18:49] And then, so where's the invoice. It's really just a revenue share. Uh, so I think that becomes a very complicated area to tax. Is that kinda what you're finding with your clients and all that?
[00:19:01] Carolynnn Kranz: Well, I think that it can be. You know, it can be complicated, right? I mean, when I'm working with clients, it's interesting.
[00:19:11] When people come to me with different business models, one of the first things I ask them is, you know, I want to see how are they getting paid? What are the contracts say? How is that really characterized? Right? Because, because in today's world, is it a commission? Is it a fee sharing arrangement? Is it a sale for resale that looks like a commission, but really isn't.
[00:19:34] And in the technology space, that's becoming more prevalent because you do have what historically has been a lot of value added resellers, but the models are working different. So understanding. How something is characterized within the contracts, what to be legal documents say. And then also secondarily what happens from a gap perspective, right?
[00:19:55] Generally accepted accounting principles. How is this treated? Those are the types of things we look at and, and that's. First test is what is it before we go down the path of, of how do we actually Citus it? Because until we know what the character is of it, we don't know how it's cite us. Right. Because if it is a commission, it may very well follow the sale, which is true stress,
[00:20:19] Judy Vorndran: right?
[00:20:19] Yes. Well, I don't just think the invoicing process. Pretty much impossible because it's here, we keep 5%. We had a situation where, uh, you know, this thing was creating software for races. And so you would, you know, like active acts. If you go to a, do a run and you know, there it's free. The only way they make money is by taking a cut of your registration fee.
[00:20:40] How are you supposed to tax that and where, and then if you're running a race in Colorado, say for example, a Steamboat half marathon, and you're sitting in Michigan, Where does this attacks occur when you do the race or when you sign up for it? I think that's a huge issue about silencing as well from some of these technological perspectives.
[00:20:58] And then the person paying you is the person buying the race, not the company who's orchestrating the race or like remote photos, you know, like do Citus situate, you took the picture or where you ship the picture, if it's a digital good. Right. So, cause it's not shipped anywhere. If it's here, pop it up in your internet.
[00:21:16] Go ahead and download it and print it, you know? So what, what else do you find that you deal with in that space?
[00:21:22] Carolynnn Kranz: In the cytosine thing space? I would argue, you know, a site a thing is unquestionably, probably the most complicated areas in this space. You know, I mean, characterization is hard enough, but at least there is some guidance out there.
[00:21:37] Right in the world of sight is saying, you know, if I'm representing a seller, I'm hoping that their big states or states like Washington or Minnesota, or Massachusetts or Pennsylvania, where there are exemption certificates. And we don't have to worry about digging into the nitty gritty. Right. Um, the reality is what I see in practice is most sellers doing their best to collect as little information as possible.
[00:22:03] From customers because it is a seller's obligation to collect tax based on the facts known at the time of sale. And, and so in that regard, what I know, what I have available to me is what I have limited to making that proper tax determination. And I have seen some very large vendors in this country, come out with the denims that they attach to their contracts, where they're asking purchasers.
[00:22:31] To attest to a location of use, even though we may know that that location is inaccurate. And, and so far from a seller's perspective, I've seen states being pretty accommodating on looking at that bill to, or their contract address and using that as long as you're doing it consistently. Right.
[00:22:54] Understanding that. They may miss out on something else, but they're picking it. If all sellers are doing it the same way at the end of the day, it equalizes itself. Right. So I see that, but it is creating a bit of an issue on the back end for purchasers, right? Because what if that tax was not legally due the seller merely used a bill to address, and this is a big debate we had in the streamlined sales tax world.
[00:23:18] So at one of the, you know, Not one, many of the streamlined sales tax project meetings, we got into a discussion of in this type of space. If a seller uses a bill to address, is that tax legally do such that another state has to provide a credit for that tax. And the conclusion was no, no way. If that state really had no juror, other rights jurisdiction over that transaction, but for the use of a bill to address that is not enough to argue that the taxes legally do certain.
[00:23:50] It protects the seller when they are collecting the tax, but it doesn't in any way, protect the purchaser. And on the upside, it also means that a purchaser, you know, if the seller collects at a hundred percent, which, you know, commonly happens in say a state like. And it's a state where they do site is based on use.
[00:24:10] There can be refunds claimed after the fact, but it's, and that's why I think again, many states have gotten forward-thinking and do have that exemption certificate because they don't want to be processing the refunds and things of that nature. They understand. It's sellers systematically do not have the ability to charge multiple states taxes on one line item of an invoice, and some have found workarounds.
[00:24:34] You know, they create location codes and they issued 10 invoices for the same transaction, which is a nightmare, but it's, there are work arounds, but they are impractical for a seller who is selling a license. That's going to be used in every jurisdiction in the country. And then add on to that. Locals in Colorado, right?
[00:24:56] I mean, it just creates an absolute nightmare. So, so it is an interesting area. I've had to work with both sellers and purchasers on it. There is definite room for improvement in my professional opinion, based on what I've seen is any state that is taxing based on use in the state of a transaction where there can be concurrent.
[00:25:18] So enterprise wide, ER, you know, license for software where you have 31,000 users. In my opinion, those states should be allowing for exemption certificates, take the burden off of the seller and put it on the purchaser so that the purchaser does it. Right. Not, you know, the purchaser already has that burden.
[00:25:38] They already have. Uh, burden to accrue the tax, but that works in a business setting, not necessarily in a consumer setting, but the reality is in a consumer setting, it's one and done, right. It's one use. And that deal to address is likely indicative of where actual use occurs. Yes, I can download a movie for so that I can view it on a plane.
[00:25:58] When I too am traveling to Austin tomorrow on a plane, right. So, yes. Um, you know, I can do that. I will be working. I won't be watching a movie, but you know, if I were going on vacation, maybe I might think that I might have a chance. So yes, we recognize you as can occur. In other locations, the book I'm going to read on vacation that I download in advance, but again, it equalizes out, I think, in the long run.
[00:26:27] Meredith Smith: Oftentimes, we deal with clients on and remediation strategies. And so they're, you know, they'll try to get those kind of after the fact multiple points of use certificates, it's like, okay, well, if only 50% are going to New York and 50% are going everywhere else, but that's just based on that New York billing address.
[00:26:44] But Hey, we have a California billing address. What of your California billings are going to New York, right? So that's, you know, from a layman's perspective, that's kind of what that equalization presuming you're talking about. Right? So you've got, you know, one state where we could be overtaxing, but then the California customer isn't reporting any customers in New York.
[00:27:09] Carolynnn Kranz: It's a slippery slope, right. It really is. Which is why, when I'm working with sellers, whatever method you're going to use, You said consistently, once you start making exceptions for one customer, you know, if I'm the state, I want to know it. And the other thing is from general audit practices, right? When a state comes in and audit you, you know, in this kind of space, I typically see, um, the audit start by ferreting down the, you know, the entire.
[00:27:37] The population, you have a transactions. So those with a bill to address inside the state. So the issue you run into and say a New York when you're dealing with an audit is okay. I failed to charge this customer tax on this transaction, but they only have 10% usage in New York. Will you accept that? And the response you would get from an auditor will be, I can give that to you, but then you need to show me your.
[00:28:04] California customer, just to your point, Meredith, to whom you didn't feel any tax that has users in New York. So it's a slippery slope. So if you narrow that audit population down to only build two addresses, you might need to live with the results. So it's something you need to think about strategically ahead of time and how that impacts we work
[00:28:23] Meredith Smith: specifically with the client.
[00:28:24] That argument with their New York auditor. And she's like, okay, cool. But guess what? Give me all of your, then I need all of your invoices for everywhere else so that I can see that IBM you're billing in California or GE your billing in California is in New York. So
[00:28:38] Judy Vorndran: it's like what you want to fight me on this of our clients.
[00:28:42] I don't know if you find this as well. It's like, we need to look through them and push a little harder. You know, ha who do you deal with when you're a software company selling to another software company or whatever you're doing? Like, how do you, who are you talking with? You're not talking with accounting and tax and finance, right?
[00:28:57] So what ends up happening is they send them a thing saying, Hey, where are you using this product? We didn't really care for audit purposes. So we didn't tax it correctly. Now we need to figure out where, where we should have taxes to what the auditors off our backs. Well, they don't get to the right human right at the company.
[00:29:12] That's the buyer. So we've had it actually say, well, we'll talk to the person who is actually the person who handles this because this is Thompson routers. So this is GE. They have somebody on staff who actually is probably looking at some of this. They have a department of people that understand this.
[00:29:26] Consequences. Well, of course they didn't do this and we could've saved them like hundreds of thousands of dollars, because we would have pushed beyond the traditional people you deal with at the company to actually talk to the people who know the tax stuff. And we would have been able to get that documentation, which we didn't get till after the fact, which is kind of a bummer.
[00:29:42] But I think there's this feeling of like, well, I shouldn't attack. I should have tax it. I shouldn't have Jackson. I'm embarrassed to ask my customer. I don't even know who to ask my customer to get the information, to know where the darn thing is being used, but somebody knows. There is no question that it's known at a company level, especially in a multi user enterprise level environment with a half a million dollar license fee.
[00:30:03] That's being built in New York, the taxes software, but you know, those users are all over the world. Like, you know, where your users are. So because you have employee records and you have a census. So some of that's just kind of funny that people don't want to ask those questions. They're almost embarrassed to go beyond.
[00:30:19] Carolynnn Kranz: Uh, you know, the thing about this is that gets tricky is so there's reactivity and there's proactivity, right? So in working with clients on a proactive basis, which I've done, who are, who have a large technology spend, we try to work with a combination of legal it and tax to educate them to the importance of this issue, because.
[00:30:41] Most licenses that come in the company, we'll go through legal review and it is always involved because they're doing the installation. So anything you can put on the front end to make sure you're putting in your legal documents, what you need to prove, where you actually occurs can benefit you down the road with the reactivity, which is one of the things you're talking about.
[00:31:03] Judith is, is the issue you run into is the records. May. They might, they might exist, but for a period of time, right? I mean, I'm working through a refund claim with the clients. We have unquestionable evidence of where use occurred, uh, even by an independent third party. Right. But the states, when you're dealing with the refund claim, when you're doing this on a retroactive basis, They're going to be big sticklers with it.
[00:31:35] And if it's a small issue and you're dealing with it on audit, my experience is getting a statement from the vendor, getting a statement from the employee who didn't the installs enough, but when you're in appeals at at least at the administrative level, They, you know, anything you can provide that's contemporaneous is better.
[00:31:52] You know, a lot of companies have the bigger the company they might have, like for example, CMDB database, which keeps track of all of their software purchases with the physical location of it down to potentially a partition to drive on a server. Right. They exist. But the problem is, is they don't necessarily keep historical copies of that.
[00:32:14] So you're looking at it at a snapshot at a day in time. I can show, Hey, it's sitting here today. I have somebody who said it was there yesterday, but they still want something more because my legal document has a location that is equal to the contracting address. Right. So, so. You just have to be careful.
[00:32:36] I mean, sometimes, you know, having gone down these paths and got in and, and, and pulling together really good substantiation, I still find myself pulling my hair out that we all know this is what happened. Practically speaking, 31,000 licenses of Microsoft office went to our worldwide employees. Right. Um, but I have a contract address that, you know, has a location in time and the state's like too bad, you know, you've
[00:33:06] Judy Vorndran: got, and we tax it.
[00:33:08] Yeah. And I think that's a really sad statement, honestly, that people don't think about that. And there's so much money, you know, whenever I, if you ever for me, If I'm going to do some kind of use sex review, I'll go, right. What's your spend? What's your fixed assets? What's your expenses. Your total maximum liability is a million dollars times 88%.
[00:33:25] Right. And then I'm like, okay, now how do we whittle it down from there? But I think people don't even realize incrementally how much tax is moving around our world. If you think about, I mean, I remember even getting started in this business with recovery studies. Like you, I mean, I feel like the sales tax business started at the big four, but recovery studies, we went out and found overpaid taxes, got paid a commission for finding that, getting those refunds.
[00:33:47] And then that was like, wow, there's a lot of spend out there. That's been overtaxed.
[00:33:52] Meredith Smith: You know, circling back a little bit and kind of not advice for like a business owner. Right. But like, when you talk about that prospective piece, we often find contract language. That's just like, you shouldn't have used that word.
[00:34:06] They're like auditors and, you know, states really pick up on like one word, one definition in their mind, in their statute, a license means this and. Like the right to use versus a license to use, or, you know, all of those things really, really matter. And that, you know, a lot of times the drafted contract language doesn't in a lawyer's mind at all means the same thing.
[00:34:32] But in a tax perspective, it's like, that's a really bad word. And if you just use a different word that would have used the same thing, probably legally from. Obligation perspective. It would have had an entirely different tax consequence,
[00:34:44] Judy Vorndran: right. With the whole concept of bundling. Right. Everybody bundles.
[00:34:47] I remember in the VR, when I first did my one matrix, this is how I got into software in the beginning was I researched the taxability software for a client everywhere. They are a CRM. Company. And they also sold client relationship management, which I remember not even know what that term meant. Right.
[00:35:01] Thinking of Salesforce becoming such a thing, they created this software product that does, and then help desk tracking. Right. And so it was like, well, could you stop? They were sending it via disk. Right. They were downloading it. And then I'm like, could you just do it electronically? So it would be. SAS right.
[00:35:15] Which was before the word SAS. So what about you, like how you got into that space about what the heck is all this crazy stuff that we're buying and using that got you into software and digital goods to begin with?
[00:35:26] Carolynnn Kranz: Um, so I was working in big four and I had a client that I began working with and they did a.
[00:35:35] A significant number of acquisitions every year, you know, 25 to 50. So they were a multi-billion dollar tech company comprised of a lot of small tech companies. And I worked with them on all their due diligence and every one of those entities did a little something different and almost every one of them had sales and use tax exposure.
[00:35:56] So I learned in the weeds and, and when I left big food, I had not really planned to do any consulting, none at all. I had this idea for a technology business that, you know, I started and I had this same client say you've worked with us for years. We want you to keep working with. Will you continue to work with us and low and behold, the next thing you know, I have a legal practice set up and continued to work with them and, and buy.
[00:36:28] And so I just kind of developed the niche naturally, but this client, we did so much work with them. I mean, they put me through their sales training because I needed to see what a colo center looked like. I needed to manage service and our. You know, we're talking a long time ago. I mean, we're talking, this is when the first terminology was in the cloud space with a T '
[00:36:55] Judy Vorndran: cause.
[00:36:55] I remember trying to Delta, Chicago, personal property lease transaction tax, and I thought, why do you have an office at the city of Chicago? We've got to deal with this PPP, you know, tax. Oh, what are you selling there? Right? Yeah.
[00:37:06] Carolynnn Kranz: So, so, uh, I, you know, so every company I worked with all their different entities and started, you know, learning a lot and, and I just guess became known for my expertise in that area, because I delved into all the states and all the technology models.
[00:37:21] So today, you know, I'm often the person that my clients come to and say, We have a new product and we don't know what it is. And I mean it, you know, and these can be very big companies with sophisticated tax departments, but it's fun. You know, I think the critical thing for anybody in this space is, and I do this with my clients, show it to.
[00:37:43] Show me what it is you do. This is my one tip I give to everybody. And, and it's interesting because I will have a client that will come to me and they will provide me. Cause I also asked for any ancillary documents, I can get my hands on. I look at their marketing materials. Yeah. I look at their contracts, their invoicing practices, and with the new product, right.
[00:38:04] They often don't have these developed yet, which makes it trickier. But I've had discussions with, with new clients of mine, who've said, oh, this is what we do. And, and I'm led down the path to believe that what they are selling is unquestionably. It's in the SAS space, but it is remotely access software only to view their offering and say, there is not one part of this that looks like remotely access software.
[00:38:28] This is a pure service transaction. And not only do I think it's not taxable, I think that there is an if to preemption issue here under the internet tax freedom act. So, so, you know, it's, it's, it's really interesting how that happens. Yeah, right. Because to some degree technology and these models are so much cooler than taxes.
[00:38:54] so it makes my job interesting. Right. But, but challenging and, and at times a bit stressful because no matter what, you know, and what, you know, the states are doing, it all comes into play. I'm I'm fortunate because I have over the years developed a good rapport. With contacts that most of the state departments of revenue through my work, within the streamlined sales tax project, I've spoken at a lot of the, you know, the FTA kind of branch meetings, Seeda Massada and Massada and things like that.
[00:39:25] And, and so on the app side, I am often able to pick up the phone and call somebody. And on the flip side, the states, because they know me and they know my space, my expertise in Syria, sometimes I've been brought in at an MTC meeting or a seed, a meeting to educate the states in this space. So we kind of have a back and forth where we can talk to one another about these issues.
[00:39:49] Usually on my end, it's on a completely anonymous basis. Right. But, but I can vet. And, you know, we've had instances, you know, this last year we did probably eight or so rulings on a issue in eight different states for client and all of them came back favorable, but we had vetted it out with the states to make sure we were going to get that.
[00:40:11] And some of them have been, been published. And getting back to the point you made dealing with bundled transactions, there was a component that was unquestionably exempt, and there was a component. Unquestionably taxable and did that one component taint the rest and you know, we're still getting good responses from the states.
[00:40:30] I mean, the states do in my experience with one, to be thoughtful about what they're doing, they want to be consistent. But they also want to make sure they understand all the facts and that there aren't things they don't know
[00:40:43] Judy Vorndran: about. What's great. You're even doing the letter rulings. I really struggle with those because they don't turn around fast enough for business.
[00:40:48] Right. That's been, our biggest challenge is just getting them timely. We're like, yeah, we should get one, but whatever.
[00:40:55] Carolynnn Kranz: Yeah. And I will tell you, most of them have taken while there are some we've been waiting for, for, well over a year and a year and a half, but the fact is the way it has been worth it. So our client was willing to put themselves on hold the dollars.
[00:41:07] You know, it's nice when you get a new company and a younger company that's growing. So. They recognize the risks. They want to dot the I's and cross the T's. And, and we usually work with the states to kind of simultaneously preserve the right to do a voluntary disclosure or, you know, this is a space that I think is open to.
[00:41:31] Opportunities to sometimes do settlement agreements that might be outside the standard. You know what I call the plain vanilla voluntary disclosure, because there might be a real question as to taxability and depending on a company's facts, depending on their circumstances and depending on the state, because every state is different.
[00:41:51] Right. Some states are very forward thinking, look, we don't want to penalize you because we understand this is tough. Would you agree to collect on a go-forward basis? You know, because we agree it's a little gray as well, and nobody wants to fight this out. So how about you collect? But, but in this space, what's tricky is if you're selling to consumers, right, you gotta be careful because there is still this risk of class action in the sales tech space.
[00:42:18] And unless you have some binding guidance from the state, and even if you have that binding guidance, it doesn't mean that somebody is not going to bring a challenge against you. So you need to do what you can to protect yourself, especially if you're selling to, to end users to consumers that might be, might have more of an appetite to click that button to participate in a class action.
[00:42:42] Judy Vorndran: Well, the key town was such an interesting thing of the last 10, 15 years that that was having so much prevalent. Kind of like what is happening? Like someone's definitely going after this issue and stirring the pot with taxpayers to get them to bring suits against tax collectors. Yeah. That's it, you know, it's funny the bundling and then your evolution of your career is so interesting and how you kind of fell into this, but then it's just because some robust, because it's constantly morphing and changing.
[00:43:05] And also like just pivots me to the thought about our career, right. And as a tax professional, as a lawyer, as you are, uh, I am as well, how you have to understand the law, but then the practical application of. But then how you really have to understand business, which is very different than most tax professionals.
[00:43:20] I find that most of my federal brethren, as I call them the compliance people, they kind of look at the past or the current, but they don't always research things and understand how business works. They just see revenue in costs out. Yes, you could deduct this. No, you can't. All right, here we go. But from a tax state tax perspective, you have to figure out where are we put the money.
[00:43:39] Right. And who gets, what piece of it. And do we have to collect something? And you really, like you say, have to understand how business gets done from the sales all the way down to the booking of it and the invoicing process, the delivery mechanism. So that's a very interesting space that we live in. I think as practitioners, very atypical for most, I think CPAs and or attorney.
[00:44:00] Really cause a lot of attorneys will write a contract. They'll talk conceptually, but they won't talk practically about like how you actually do this thing. I just told you about, you know, by getting a letter rolling.
[00:44:10] Carolynnn Kranz: And, and as we
[00:44:11] Meredith Smith: wrap, I guess, Carolynn and you know, what one piece of advice would you offer to businesses as just the shift and kind of these changes.
[00:44:25] What's one piece of advice that you could offer to businesses.
[00:44:28] Carolynnn Kranz: Yeah. So I'd say, stay ahead of it. You know, the technology space, you know, focusing on businesses in the technology space is really consumed by a lot of small growing companies, right. And, and a lot of them will tend to say, we don't have the time or the resources to deal with this.
[00:44:45] Now I have. In my experience seen sales tax being really often the number one issue on a due diligence or technology company, number one issue when they're going to do an IPO or something of that nature. So it's not something you can let go. This is a tax that is not yours. It's that of your customers, right.
[00:45:05] So why would you want to bear the burden, but you want to, but you want to do it properly. And so, yeah, it seems like a big investment to go out and get help, but, but the reality is. You know, at the end of the day. And I always try to tell people, baby steps, you know, once somebody, once I understand what my client is doing, the reality is, and maybe this is partly because I work in the space.
[00:45:29] So I kind of have a lot of stuff up here in my head through that experience, but I'm not looking at the end of the day at, at 45 states, the district of Columbia and locals and things of that nature. Nine times out of 10. There's a 90 10 and 80 20 rule, a 70 30 that you applies to the bulk of the revenue often sits in a handful of jurisdictions and those jurisdictions, some of them have pretty clear rules.
[00:45:56] So by way of example, California has always up. And they tax almost nothing in the digital space. Texas is almost always up there and they tax a lot. Right? Washington is there where you get into those really fine lines is when you get into states like. New York, Massachusetts, Tennessee, where they tax remotely access software, but they don't tax computer services.
[00:46:21] And where is that line? So it is never as bad as it seems. And so in my mind it sounds like a big task, but it really isn't at the end of the day, it's all about babies. I spent a little time upfront to understand where you have an obligation to collect, then look at on a dollar threshold where those big numbers down to your small numbers and start ferreting out those jurisdictions, and you can address them pretty quickly.
[00:46:48] And in my opinion, and get on top of it right from the beginning.
[00:46:53] Judy Vorndran: I couldn't agree more. We, we try to proselytize that to a lot of clients and we try to show them the money. A million dollars revenue is $80,000 a risk. I mean, I don't understand how that's not common, whether you have a resale transaction or whether it's not taxable, it's still 80,000 or risks that you need a document one way or the other.
[00:47:10] Right. But a lot of people fail to do that. And I wish we could see more of that compliance on the front end. So people aren't caught with those due diligence on the ends, because those are. We make a lot of money on BDAs and remediation, which is a bummer, honestly, because fees for us tax, they gotta eat.
[00:47:28] It's kind of sad for taxpayers.
[00:47:31] Meredith Smith: So short-term sacrifice for long-term
[00:47:33] Judy Vorndran: gain. Yeah.
[00:47:35] Carolynnn Kranz: Well, you know, the reality is, and I remember. Just as an aside, having a conversation at a streamlined meeting where we had a small planning meeting, I'm I'm president of the business advisory council. So I get invited to meetings with some of the state folks and we're sitting there planning and they're like, how do we educate international sellers about their issues and their obligations under, you know, Wayfair type laws?
[00:47:58] And I said, international sellers, how about domestic? And there is just this assumption that. Every business out there in the world in this country understands that they might have an obligation to collect somewhere other than their home state. And, and there's just, you know, in today's environment, there is just, I don't want to call it ignorance.
[00:48:19] There's just a lack of knowledge that exists. And that's why you're doing the work you're doing. Not because people don't know whether they should tax or not, but they don't even realize they have an obligation.
[00:48:29] Judy Vorndran: Oh no. I mean, I, after going from the big four to a regional firm, I was sort of blown away.
[00:48:34] First of all the CPAs don't know, they don't even understand state income taxes. I mean, and there's 46,000 or something CPA firms in our nation. So there's a lot of small practitioners out there that are like, yeah, I can do your 10 forties. I could do 1120s. I could do this, but I don't really understand it, this other stuff, but I'm still a CPA.
[00:48:49] Right. So I think that's a really interesting space that I kind of built awareness around because obviously at the big four, you're dealing some of the largest taxpayers in our nation who have the benefit of our advice because the issues are large. But even with a small business, the issues are large.
[00:49:03] They just don't realize. Because they're not large yet. And, um, it's, it's, it's an, it is a little disheartening that we have this mentality of like startup, let's go, let's build, let's do this thing. And then we don't collect the taxes and that's a big cost to build
[00:49:17] Meredith Smith: well, Carolynn, we really appreciate this conversation and you know, your insight and, you know, it's been very interesting.
We really, really appreciate your time. So thank you for being here. And of course, Judy, thank you for being here as well. This has been salvation until next time. This podcast is for educational purposes only and is not intended, nor should it be relied upon as legal tax accounting or investment advice.
You should consult with a competent professional to discuss specifics of your situation and the applicability of the information presented.
Sign up to receive email updates
Enter your name and email address below and I'll send you periodic updates about the podcast.
Questions asked and answered in this Episode:
- How has the taxation of digital goods evolved and where are the states headed?
- What is the history of this using Microsoft as an example?
- How do we handle the advertising taxes? Why now? Why was Maryland first? Why is it being challenged?
- How did she get into software and digital goods?
- What piece of advice does she offer to businesses in this space?
What You Will Discover:
- [00:49] The evolution of digital goods taxation
- [03:18] The history behind this with Microsoft as an example
- [10:37] Two things to keep in mind with Washington’s digital space
- [13:11] Why the advertising taxes are being challenged
- [21:19] Other things she comes across in situs space
- [30:19] Reactivity vs proactivity
- [35:17] How Carolynn got involved in software and digital goods
- [44:10] The piece of advice Carolynn offers to businesses
- “I think in this instance, the issue is that for years, all of these items really did have a form of a tangible equivalent, and therefore, they were part of a tax base. So we’re seeing an eroded tax base… Things that were historically taxed are no longer being taxed, and so the states still want that piece.” – Carolynn Kranz [03:30]
- “The question is is how do you do that situs for that, right? Because Washington does want to look through the transactions. So if you’re selling a service to somebody and the benefit is derived, not necessarily by the customer, but the customer’s customer, right? They’re going to look through that and that gets tricky, because how much information you have or maintain as a seller gets tricky.” – Carolynn Kranz [11:34]
- “It’s a slippery slope, right? It really is, which is why when I’m working with sellers, whatever method you’re going to use, use it consistently.” – Carolynn Kranz [27:08]
- “In this space, what’s tricky is if you’re selling to consumers, right? You got to be careful, because there is still this risk of class action in the sales tax space. and unless you have some binding guidance from the state, and even if you have that binding guidance, it doesn’t mean that somebody’s not going to bring a challenge against you, so you need to do what you can to protect yourself, especially if you’re selling to end users to consumers that might have more of an appetite to click that button to participate in a class action.” – Carolynn Kranz [42:07]
- “You really, like you say, have to understand how business gets done from the sales all the way down to the booking of it, and the invoicing process, the delivering mechanism.” – Judy Vorndran [43:34]
- “It is never as bad as it seems, and so in mind, it sounds like a big task, but it really isn’t at the end of the day. It’s all about baby steps. Spend a little time upfront to understand where you have an obligation to collect. Then look at on a dollar threshold where are those big numbers down to your small numbers and start figuring out those jurisdictions, and you can address them pretty quickly in my opinion and get on top of it right from the beginning.” – Carolynn Kranz [46:23]
Carolynn Kranz on LinkedIn: https://www.linkedin.com/in/carolynn-kranz-64267930
Kranz & Associates PLLC: https://saltattorneys.com
Never miss an article
We solve tax problems with practical tax answers that make business sense in all jurisdictions and industries. By hiring our Big Four-veteran leaders and experienced teams you put tax strategists on your side—and in your corner—supporting your strategy wherever business takes you.
304 Inverness Way South, Suite 300, Englewood, CO 80112
Phone: (720) 227-0070
440 Indiana Street
Suite 150, Golden, CO 80401
Phone: (303) 393-2300