Threat to Online Learning -- From New York's Tax Department?

February 23, 2009

In a move that could prove a harbinger of things to come, a New York agency now contends that a distance education course is subject to state sales tax.

While it does not carry the weight of law, the New York State Department of Taxation and Finance’s January 29 opinion has potentially far-reaching implications, given the state’s role as a trend setter for other states. The department asserts that an e-course offered by SkillSoft Corporation, a New Hampshire-based company, should be subject to sales tax as “software” purchased by the student. In so ruling, the department has justified an unprecedented tax on educational services, according to a tax consultant familiar with the case.

“State governments are strapped for money, and this represents an administrative ruling that appears to me to broaden the tax base,” said Melanie Hill, a tax specialist with Dow Lohnes Price Tax Consulting Group LLC.

“I think it’s a sign of our times that states are looking to pick up revenue they haven’t before,” she added.

SkillSoft provides various online courses to prepare students for certification in information technology fields. Students who take the online courses have limited human interaction with instructors, except for a “mentoring” service that allows students to contact experts in the field. The presence of a mentoring service, however, “does not appear” sufficient to classify the course as a non-taxable educational experience, according to the department.

It’s not uncommon in some states, including New York, for software designed for educational purposes to be subject to sales tax. Students taking classes through SkillSoft, however, are not given a tangible piece of software they can use after the conclusion of the course; they are merely given access to the course online.

Even so, the department maintained that accessing the software online “constitutes a transfer of possession of the software, because the customer gains constructive possession of the software, and gains the ‘right to use, or control or direct the use of’ the software. … This is true even if no ‘copy’ of the software is transferred to the customer.’ ”

Hill called the department’s definition of “software” a “mischaracterization.”

“It’s not software in [the sense] that each person is using this as software over and over,” she said. “It’s more like an educational experience where you do it once and you’re done.”

The lack of human interaction in the online course appears to have been a key piece of the department’s justification for taxation. Indeed, the department held that some of the courses were tax exempt in instances where SkillSoft provided video-based training online. In declaring such an exemption, the state gave a further indication that some form of human interaction -- however remote -- helps push a distance learning course into the realm of a non-taxable educational experience.

While the opinion does not carry the weight of law, an audit could subject SkillSoft to back taxes if the opinion goes unchallenged, Hill said.

SkillSoft officials did not respond to an interview request Friday.

Michael P. Lambert, executive director of the Distance Education and Training Council, said he thought the opinion wouldn’t withstand a legal challenge. On the other hand, Lambert said the opinion represents a potentially troubling evolution of tax law in the burgeoning world of online education.

“There’s no settled law here, as they like to say; it’s developing,” he said. “We would certainly not want to see it developed where an online school would have to pay taxes to 50 different state jurisdictions.”

“I’ve never heard of people trying to tax an intangible like this, especially tuition for education,” Lambert added. “That’s a novel one, and a bad idea. People are trying to get ahead when they get an education; you don’t want to hold them back by taxing them.”

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