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Last month, we explained how ghost assets in the form of
computer software and hardware can lead to over assessment for
property tax purposes. In addition to identifying ghost assets,
proper classification of software can also lead to tax savings
since some types of software can be tax exempt or be on site but
have no taxable value internally, in exchange, or no market
value. A good illustration is the story of a POER client that is
a large regional grocery chain.
The company was audited for
the time period 2001-2005 by a major county in North Carolina.
The county had taken a much more aggressive position than in
past years particularly in the areas of software and leasehold
improvements.
The county took the
position that all capitalized software on the books was
assessable and issued a valuation that included $10.5 M in
software discoveries over 5 years. POER appealed the valuation.
The issue was complicated
because the software costs booked included both packaged and
customized software. Over the company’s history, some customized
software had been produced internally and some had been produced
by former employees who formed a 3rd party software company.
Other software had been purchased as a package and then
customized.
An investigation found an
expensive package for software that was never implemented. Some
software costs were actually for upgraded versions of existing
software, both packaged and custom. So the complexity was made
difficult because the assets were all classified as software and
were therefore picked up by the assessor.
In order to fight the
audit, POER and our client's contacts exchanged information
about the types of software that were taxable vs. the types that
were not. The heads of the IT group were called in to assist.
This task turned out to be extremely time-consuming and in fact
was never fully completed due to time and resource issues.
However, the result was nevertheless positive.
The case was ultimately
settled because a partial review by the client’s internal staff
found unused software, upgraded versions of packaged and custom
software, internally produced custom software, etc. They
established enough of a basis to be able to show that including
all costs on the audit was not appropriate. Negotiations took
place and it was decided that assessing 50% of the costs was
fair to the taxpayer and the county. The value was reduced by
$5.4 M with resultant tax savings of $95,000 for the client.
The moral of the story is
that software assets should be clearly identified when purchased
using tax department and IT professionals for proper
classification. The tax department should know if software is a
packaged product (like Office Professional), a package that is
customized all or in part, or produced from scratch for a custom
project. It’s also important to know if new versions replace old
versions and in custom software cases, how the software was
produced, either by an outside company or internal resources.
Including as much detail as
possible in the asset description is helpful and some
consideration should be made to additional software asset
classes or subclasses so a firm can quickly identify the nature
of all software costs to determine what, if any taxability
exists. Then the personal property returns can accurately
reflect the appropriate personal property tax assessment with
minimal concerns about later audits.
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