The Illinois Department of Revenue (DOR) recently issued guidance clarifying the requirements for sales of software licenses to be considered non-taxable. Ill. Gen. Info. Ltr. ST 12-0011-GIL (Feb. 29, 2012).
Illinois taxes retail sales of tangible personal property, and Illinois treats prewritten software as tangible personal property, so retail sales of prewritten software are taxable in Illinois. However, Illinois's regulations explain that, when software licenses satisfy five specific requirements, they are not considered to be taxable retail sales. Thus, the sale of a software license is not taxable if: (1) it is evidenced by a written agreement signed by the licensor and the customer; (2) it restricts the customer's duplication and use of the software; (3) it prohibits the customer from licensing, sublicensing or transferring the software to a third party without the permission and continued control of the licensor; (4) the licensor will either (a) provide a copy of the original software free or at minimal charge if the software is lost or damaged or (b) permit the licensee to make and keep an archival copy of the original software, and (5) the customer is required to destroy or return all copies of the software to the vendor at end of the license period. See Ill. Admin. Code tit. 86, pt. 130.1935(a)(1).
In their recent guidance, the DOR specifically addressed the requirement that a license of software must be evidenced by a written agreement signed by both the licensor and the customer in order to be exempt from tax. While it is common for a customer to accept the terms of license agreement online by checking a box that indicates the customer accepts the terms of the license, the DOR explained this action will not be enough to fulfill the signature requirement. The agreement must contain the actual signatures of both the licensor and the customer. Otherwise, the sale of the software is a taxable retail sale.