By Derek Takehara and Andrew Appleby
The Virginia Tax Commissioner issued a taxpayer-favorable ruling addressing Virginia sales and use tax on (1) computer software sold to manufacturers and (2) cloud computing services. The Commissioner determined that Virginia’s manufacturing exemption can apply to sales of computer software if the software is used directly in the manufacturer’s production process (i.e., as an indispensable and immediate part of the actual production process). As an example, the Commissioner distinguished between software used to direct or control production operations (exempt) and software used only to monitor such operations (taxable). If potentially exempt software is used in both taxable and exempt production activities, a preponderance of use test is used to determine whether the exemption applies on an all-or-nothing basis. The Commissioner reminded the taxpayer that sales of computer software could also be exempt as sales of prewritten software modifications or custom software, irrespective of whether the purchaser is engaged in manufacturing. If the taxpayer relies on the manufacturing exemption, the Commissioner cautioned the taxpayer to collect an exemption certificate from manufacturers at the time of sale to avoid later audit scrutiny. Finally, the Commissioner determined that cloud computing services were exempt from sales and use tax because they do not involve tangible medium and qualify as a nontaxable service under Virginia’s exemption for electronic transfers of software. Va. Pub. Doc. Rul. No. 14-42 (Mar. 20, 2014).