Greenberg Traurig, LLP



GT Alert

Did You Pay Too Much New York Sales Tax on That Computer Hardware?

May 2002
By David Bunning, Greenberg Traurig, New York Office

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Dot.coms and other cash-strapped businesses swimming against the current economic tide may be surprised to learn that they paid New York sales tax on the purchase, lease, or rental1  of tax-exempt computer hardware and related items and may be entitled to a refund. New York, in an effort to encourage the growth of high-tech businesses, passed a number of sales tax exemptions which render the purchase or lease of computer hardware and other equipment exempt from New York State and local sales and use tax when used for certain specified purposes.

David Bunning
"Businesses involved in any of the activities for which these exemptions apply should review invoices to determine whether New York sales tax was paid on tax-exempt items."

Recently, in the course of processing a sales tax refund of nearly $200,000, a representative of the New York State Department of Taxation and Finance ("Department") remarked that he was unfamiliar with the parameters of one of these exemptions and needed to research it and discuss it with his supervisor. This dearth of refund claims suggests either that taxpayers and their professionals have perfectly assimilated these exemptions and routinely report and pay the correct amount of sales tax, or (more likely) that sales tax has been paid on exempt items and that refunds are waiting to be claimed.

It is easy to understand how this can happen. In the typical example, the purchaser is presented with an invoice for hardware, software, shipping, maintenance agreements, and related items, on which an amount for sales tax appears as a line item, and the purchaser pays the invoice without further thought to the sales tax. There is no reason that the purchaser would ever review the propriety of the tax after it was paid.

In cases where an exemption from sales tax is known to exist at the time of purchase, the purchaser claims the exemption by presenting to the vendor a Form ST-121.3 ("Exempt Use Certificate for Computer System Hardware") or a Form ST-121.5 ("Exempt Use Certificate for Operators of Internet Data Centers (Web Hosting)"). When the tax is paid on items later found to be exempt from tax, in order to claim the refund, the purchaser must file with the Department a Form AU-11 ("Application for Credit or Refund") with the required supporting information and documentation. The claim for refund must be filed within three years of the date that the tax was payable to the Department by the vendor.

Now — before one more day of the three-year statute runs — is an appropriate time to review these exemptions and compare them with your invoices to see if tax was paid on tax-exempt items. This alert considers the three most recently enacted exemptions from New York sales and use tax that apply to the purchase of computer system hardware and related equipment.

The first is for the purchase of "computer system hardware used or consumed directly and predominantly in designing and developing computer software for sale." The second exemption is for the purchase of "computer system hardware used or consumed directly and predominantly in…providing the service, for sale, of designing and developing internet websites."

The third is for the purchase of "machinery, equipment, and other tangible personal property specified herein, sold to a person operating an internet data center located in this state for use in such center" which property will be located or installed in an internet data center and "is required for and directly related to the provision of internet website services for sale by the operator of the center." Each of these exemptions is more fully explained below:

1. Computer System Hardware Used or Consumed Directly and Predominantly in Designing and Developing Software for Sale.

This exemption is set forth in Tax Law 1115(a)(35), effective June 1, 1998. The Department explained the scope of this exemption in Technical Services Bureau Memorandum TSB-M-98(5)S (June 8, 1998)2  concerning the purchase or lease of "computer system hardware," which includes "associated parts" and "embedded software."

"Computer system hardware" includes computers (micro-, mini-, mainframe and personal), disk drives, CD-ROM drives, external modems, printers, scanners, monitors, keyboards, mouses, network interfaces, network hubs, and network routers. "Associated parts" are defined as "any component of, or attachment to, computer system hardware that is used in connection with, and is necessary to, the performance of the hardware’s operation." This includes motherboards, daughterboards, CPUs, controller cards, hard drives, internal modems, network interface cards, video cards, and network wiring and cables.

The TSB Memorandum also defines the statutory terms "directly" and "predominantly." "Directly" means that the hardware is actually used in designing and developing computer software for sale or that it has an active, causal relationship in the design and development of the software for sale. The exemption does not apply to computer system hardware used in activities that are collateral to the actual design and development process, such as in "administration, production, or distribution activities."

"Predominantly" means that the hardware must be used more than 50% of the time in the design and development of computer software for sale.

"Designing and developing," includes "systems analysis, program design, coding, testing, debugging and documentation that are part of the design and development of computer software for sale" and "includes activities carried on from the conceptual stage, through the planning, evaluation and testing stages of development."

The exemption does not include the purchase of software, except "embedded software" such as is found in a memory chip, which is considered part of the hardware. If the purchase of hardware includes the purchase of software, the price must be allocated between them and only the hardware portion is exempt from tax. Although the purchase of software used to design or develop software is not subject to this exemption, prewritten computer software used or consumed directly and predominantly in the production of tangible personal property for sale, or directly and predominantly in research and development, is exempt from sales tax. (Prewritten software is defined by statute to be tangible personal property and its retail sale is subject to sales tax, in contrast to custom-designed software, the retail sale of which is not subject to sales tax.)

The exemption also does not apply to installation charges, maintenance charges, tools, or supplies.

2. Computer System Hardware Used or Consumed Directly and Predominantly in Providing the Service, for Sale, of Designing and Developing Internet Websites.

This exemption is set forth in Tax Law Section 1115(a)(35), effective March 1, 2001. The hardware and related equipment which are the subject of this exemption are the same as that explained above. The same requirements of "directly" and "predominantly" apply. The difference is that the hardware must be used "in providing the service, for sale, of designing and developing internet websites." These terms are not defined by statute or in a TSB memorandum.

3. Machinery, Equipment, and Tangible Personal Property Sold to a Person Operating an Internet Data Center in New York.

The third exemption is set forth in Tax Law Section 1115(a)(37), effective September 1, 2000. It covers a much wider range of property than do the first two exemptions. The property must be "located or installed in a facility or structure which is an internet data center." The property must be "required for and directly related to the provision of internet website services for sale by the operator of the center."

The property subject to this exemption includes: "computer system hardware, including servers and routers, computer software, storage racks and cages for computer equipment, interior fiber optic and copper cables, property required to maintain the appropriate climate controlled environment for the property in the internet data center such as air filtration and air conditioning equipment and vapor barriers, property related to fire control such as fire suppression equipment and alarms, power generators, power conditioners, property related to providing a secure environment such as protective barriers, property which when installed in such facility or structure will constitute raised flooring and other similar property." This list is non-exclusive.

An "operator of an internet data center" is defined as "a person (a) operating a facility which consists of a data center specifically designed and constructed to provide a high security environment for the location of servers and similar equipment on which reside internet websites; and (b) providing at such facility the internet web services of: (i) uninterrupted internet access of its customers’ web pages in a secure environment and (ii) continuous internet traffic management for its customers’ web pages." However, it also states that a person primarily engaged in the sale from the center of internet access services is not providing internet website services for sale. For this purpose, the statute defines "primarily engaged" to mean that more than 50% of the use of all the machinery equipment and other specified property in any internet data center is for the rendition of an internet access service.

Technical Services Bureau Memorandum TSB-M-00(7)S (August 15, 2000) explains that "uninterrupted internet access means twenty-four hours a day, seven days a week, three hundred sixty-five days a year." It also states that the property must be required for and directly related to the provision of internet website services for sale by the operator of the center. The memorandum clarifies that the exemption includes the purchase of the otherwise taxable services of providing (i) installing, maintaining, servicing and repairing tangible personal property and (ii) protective and detective services.


A review of these provisions confirms their complexity. It is entirely possible that purchasers of computer hardware systems and related products used to design and develop software, design and develop internet sites, and for use in operating internet data centers, may have improperly paid New York Sales tax on the purchase or lease of tax-exempt items. Businesses involved in any of the activities for which these exemptions apply should review invoices to determine whether New York sales tax was paid on tax-exempt items. If so, the necessary supporting documentation should be assembled and a claim for refund should be promptly filed.

Greenberg Traurig has experience in assisting taxpayers throughout the refund process, including preparing and submitting the refund claim, and working with the Department to expedite its consideration and allowance. We would welcome the opportunity to be of assistance.



1 New York sales tax is imposed on the purchase, lease or rental of tangible personal property. Tax Law section 1101(b)(5). The exemptions described here apply to the purchase, lease or rental of the described property. As used in this alert, the term "purchase" includes lease or rental, and the term "purchaser" includes one who leases or rents such equipment.

2 Technical Services Bureau ("TSB") Memoranda "generally address distinct statutory or regulatory provisions or distinct issues." Tax Regulation (20 NYCRR) section 2375.6(a)(1)(ii). They are "advisory in nature . . . do not have legal force or effect, do not set precedent, and are not binding." Tax Regulation (20 NYCRR) section 2375.6(c).


© 2002 Greenberg Traurig

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This GT ALERT is issued for general purposes only and is not intended to be construed or used as legal advice. Greenberg Traurig attorneys provide practical, result-oriented strategies and solutions tailored to meet our clients’ individual legal needs. The Firm’s responsive approach to client service often cuts across legal subject matter, applying the right experience and resources to provide cost-effective solutions.