Par Damon N. Chronis
A Texas Court of Appeals has held that automated bill payment services purchased by banks are not taxable “data processing” services. In Hegar v. CheckFree Services Corp., No. 14-15-00027-CV (Tex. App. – Houston, April 19, 2016, no pet. hist.), the court declared that the essence of the transaction was the nontaxable service of issuing payments and that the use of a computer merely facilitated the performance of the nontaxable service.
After an audit, the Texas Comptroller of Public Accounts (“Comptroller”) assessed tax against CheckFree for bill payment services sold to Texas banks. CheckFree provided the banks with an electronic payment delivery platform, paid bills as requested by the banks’ customers (“users”), and provided supporting services (e.g., invoices, reports, and customer service). Via a platform accessed through their banks’ web portals, users initiated and authorized payments from their bank accounts directly to selected payees. Users entered payee information, payment amounts and due dates, and could add payees, make payments, view pending payments, and perform related tasks on CheckFree’s platform.
CheckFree determined the actual method of payment, either debiting the users’ accounts and crediting the payees’ accounts using the Automated Clearing House or (in about 20% of cases) generating and mailing paper checks drawn on the users’ accounts. CheckFree monitored and maintained the network hardware, software, and mainframe operations, and employed thousands of professionals to provide fraud prevention, ensure compliance with banking regulations, and support users. CheckFree provided billing and payment data for users’ retrieval for up to 90 days and also provided periodic transaction reports to the banks.
The Comptroller contended that the foregoing services constituted “data processing,” which is defined in Tex. Tax Code § 151.0035 to include:
. . . word processing, data entry, data retrieval, data search, information compilation, payroll and business accounting data production, . . . and other computerized data and information storage or manipulation. “Data processing service” also includes the use of a computer or computer time for data processing whether the processing is performed by the provider of the computer or computer time or by the purchaser or other beneficiary of the service. . . .
The Comptroller further defines “data processing” as “the processing of information for the purpose ofcompiling and producing records of transactions, maintaining information, and entering and retrieving information” but excluding “the use of a computer by a provider of other services when the computer is used to facilitate the performance of the service or the application of the knowledge of the physical sciences, accounting principles, and tax laws . . .” 34 Tex. Admin. Code § 3.330(a)(1) (emphasis added).
The Comptroller contended that CheckFree’s bill payment service met the foregoing definitions because CheckFree compiled and maintained records of transactions and processed data input by users. The court wrote that the trial court “properly focused on the ‘essence of the transaction’ at issue, rather than simply the involvement of a computer, to determine the nature of the services CheckFree provided.” The court held that CheckFree “does something more” than the activities defined as data processing and is in fact “providing professional services that are facilitated by the use of a computer.” The court observed that CheckFree employs thousands of skilled and/or certified professionals supporting the bill payment service, including fraud monitors and investigators, regulatory compliance professionals, and process managers and decision-makers. Ultimately, the court found that the delivery platform and other technology are not the service that CheckFree sells:
Rather, the technology and equipment are part of the delivery platform for the service, or the inputs that produce the service, but they are not the service. . . . The functions or activities that are incidental to the bill pay service, such as invoices, reports, and customer service, are not the service that CheckFree sells to the financial institutions.
This decision overrules Comptroller’s Decision No. 105,009 (2012) and provides clear guidance for taxpayers with respect not only to data processing services, but to all taxable services in Texas. The essence or object of a service, according to the court, determines whether it is taxable, regardless of the “functions” or “activities” the provider undertakes to deliver the service sought by the customer.
At press time, it is not known whether the Comptroller will request a rehearing and/or appeal to the Texas Supreme Court.