In the appeal of ADP, LLC v. Arizona Department of Revenue,1 the Arizona Court of Appeals determined that a contract granting access to ADP’s eTime software constituted a lease of tangible personal property (TPP) subject to the Transaction Privilege Tax (TPT) under the definition in the statute A.R.S. § 42-5071(A).
ADP contracted with the Maricopa County to provide its employees access to its human resources software that allows employees to log in and enter their time and employment information that ADP uses to generate paychecks for the employer. The software collects and processes information using software code and servers maintained outside of Arizona. The program is configured to meet the needs of each customer. The Arizona Department of Revenue (ADOR) and the city of Phoenix assessed and collected TPT from ADP on revenue generated by the contract with Maricopa County. ADP filed refund claims with both entities, which were denied. Appeals to Superior Court were likewise denied.
In its decision, the Court of Appeals relied on an Arizona Supreme Court decision from 1943 to defend its position that eTime was TPP. In State v. Jones,2 the court determined that revenue from jukeboxes was TPP because “the playing of the record is perceptible to the sense of hearing and, hence, constitutes what the statute terms tangible personal property.” Based on Jones’ reasoning, the court concluded that eTime is perceptible because it can be viewed by the users while accessing and using the software. Although ADP argued that computers are very different than jukeboxes, the court responded that the mechanism was not the determining factor, but rather the perceptibility of what was being purchased.
ADP additionally argued that it provided a service that is the primary object of the transaction, and the property is incidental to or an inconsequential element of service and not separately charged, which is one of the three approaches used by the court to draw the line between taxable TPP and nontaxable services. The court, however, maintained that ADP’s invoice showed separate charges for “Hosting Services,” “ADP Enterprise eTime,” “Hardware Shipping and Handling,” and “Implementation Charges.” The court determined that separate charges for eTime distinguished it from true services charged under the contract.
The court also ruled that subjecting eTime to the TPT does not violate the Internet Tax Freedom Act (ITFA), which prohibits “multiple or discriminatory taxes on electronic commerce.” ADP argued that imposing the TPT violates the ITFA because the ADOR “treat[s] ADP’s online paycheck services differently than it would services involving physical assets, the way ADP conducted business pre-internet.” The court responded that the change in taxation is because of the automation of ADP’s work, not the use of the internet.
1 Arizona Court of Appeals, No. 1 CA-TX 21-009, January 31, 2023.
2 60 Ariz. 412 (1943).
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