The proliferation of communications tax and what it means for your business


If you operate under the assumption that communications taxes don’t apply to your company, it could be time to revisit that notion.

It can be easy to assume your business is liable for sales and use tax alone, especially if that’s what you’ve always done. But for many, this is no longer the case. Across a growing number of market segments, an expanding array of communications taxes, fees, and filing requirements are fast becoming applicable. 

Unfortunately, many businesses remain unaware that they fall into the category of communications for tax purposes. And the impacts can be severe. If your company is still relying on sales tax rules without paying attention to potential communications tax responsibilities, you may be at risk.

Failing to factor in communications tax liabilities can take a financial toll in the form of severe audit penalties and fines and might lead to sudden spikes in prices that can take your customers by surprise. A recent Aberdeen survey of tax and accounting professionals found that more than half of companies in key industries — IT services, digital media, software, consumer electronics, and more — failed audits due to misunderstandings and oversights.

And yet, even after failed audits, 56% of the companies surveyed still aren’t sure if they’ll be liable for communications tax.

To avoid the future shock of a costly audit, it’s important to gain a full understanding of the communications tax landscape and how it applies to both your current services and any planned growth or product expansions. Further, understanding the dynamic nature of the industry can help you make important decisions and implement best practices to manage this ongoing change. 

Which businesses might be on the hook for communications tax?

Gone are the days when state and local governments could rely on traditional wireline, wireless, and even VoIP providers as reliable sources of revenue. Traditional voice services are being replaced with new technologies that can fall outside of the existing communications tax and regulatory fee guidance. As jurisdictions struggle to replace these lost revenue sources, new rules and regulations are frequently introduced — and a broad range of companies once liable for sales tax alone are suddenly being subjected to more complex communications taxes, often without even realizing it. The services and products impacted range from smart devices and fitness equipment to religious organizations and heavy machinery... and the list goes on.

Another factor to consider

Communications services are increasingly cloud-based, virtualized, and embeddable, making them more pervasive and often in products, services, or apps that typically were never considered to be a telco or communications offering. The rapid growth and adoption of communications-platform-as-a-service (CPaaS) solutions, which deliver communications services like voice, videoconferencing, SMS, and even wireless connectivity through simple APIs, have allowed communications services to become easily embedded in a wide range of product categories. And that makes them abruptly subject to communications tax. For example, many B2B SaaS providers are incorporating voice calling and video chat services into their CRM and marketing automation platforms as either add-on modules or part of their base offering. That one change can make them subject to a wide array of communications taxes.

How can you know if your company is responsible for communications tax?

First, there are a few quick questions to answer:

  • Does your service include voice or conferencing?
  • Does it include SMS or messaging?
  • Do you offer any sort of streaming service?
  • Does your manufactured product have a networked sensor?
  • Do you offer a wireless or other data subscription service?
  • More importantly, does your company provide a service in one or more of these key market segments below or include these as a feature in your core product?
Telecom and wireless
Managed service providers
Managed service providers
SaaS platforms
If you answered yes to any of these questions, it’s time to understand how you might be responsible for communications tax.

The communications tax difference

The term “communications tax” refers to a multitude of taxes, fees, and requirements levied at the federal, state, and local levels. These include taxes that were originally created for traditional voice and networking services but have continuously been reinterpreted and adjusted over the years to account for emerging technologies. 

For decades, communications tax applied to a very select set of industries. Telephone companies. Cable operators. Internet providers. But as communications technology advanced, the definition of telecom tax began to expand. Consumers abandoned traditional services for mobile and online options, and new tax laws followed. 

However, with communications technologies evolving at such a rapid pace to include things like streaming, collaboration tools, SD-WAN, and IoT, it’s become more and more difficult for tax authorities to keep up. When rates and rules change, it typically isn’t at a holistic, national level. As a result, communications tax today is a highly complex and varied web of local fees, state taxes, federal regulations, and even special tax jurisdiction filing requirements, all of which can vary drastically from one location to another. 

Unlike sales and use tax, which is often based on relatively straightforward calculations, communications tax can involve multiple calculations and considerations, each of which can be incredibly intricate. Compounding this, the complexity of an industry in a state of constant transformation itself makes monitoring changes and determining which rules and rates to apply especially challenging. Similarly, communications tax returns and reporting can also be exceptionally complicated.  

Which product or service variables impact communications taxability?

Understanding your potential communications tax risk means first examining not only the technical nuances of your product or service, but precisely how and where it’s being sold.

It’s increasingly typical for companies within the broad telecom, streaming, technology, and many other non-technical industries to sell bundled services within the eight key market segments outlined earlier — and sometimes beyond. Companies may merge or partner, particularly to remain competitive, or they may develop and launch new products. This, often unknowingly, expands the potential communications tax risk.

As more companies face the possibility of costly communications tax audits, it’s highly important to understand if, when, and how your business is responsible for communications tax. Often, all it takes is one new feature to quickly render a company subject to a highly complex web of rules, regulations, and fees. In general, if your product has any ability for voice, video, SMS, or data connectivity, you may have a communications tax responsibility. When your product or service is bundled with any one of these, you may immediately trigger this obligation, in different ways, across different jurisdictions.

In general, if your product has any ability for voice, video, SMS, or data connectivity, you may have a communications tax responsibility.

Here are a few common scenarios: 


SaaS and collaboration platforms commonly have the ability to connect with the world outside their internal network. If you can only talk to your co-workers, your platform is likely not interconnected and not communications taxable. But, if you can connect outside your corporate network or outside the software platform you’re on, it’s likely interconnected and communications taxable. 


As in video, music, and gaming. This includes typical entertainment subscriptions and purchases but could also include other nontypical streaming services for things like events or other live viewing options. Another common scenario is for tangible products bundled with streaming services, like fitness equipment. 


Smart devices by definition come with an array of sensors, but they may or may not come with their own wireless connectivity subscription service. If they do, they may likely be communications taxable. For example, your smart thermostat uses your home Wi-Fi so it’s not communications taxable. But a drone or a crop or oil pipeline sensor likely has its own onboard connectivity. Similarly, a “smart” security camera could come with its own built-in wireless data plan. These connections are potentially communications taxable.


When sharing either promotions or real-time product or service updates, many companies are turning to text messaging. SMS can be a powerful business strategy, but it also has the potential to subject your company to communications taxes. 

Understanding how your product should be classified for tax purposes is critical. Is it an information service? Is it a communications service? Or is it a hybrid of both? The tax implications can be dramatic.

Which business model variables impact communications taxability?

Just like your product or service mix, how you merchandise and price your products and services can greatly affect your tax scenario. Understanding the nuances of each of these, and how to track and manage the requirements in more than 60,000 jurisdictions, can be overwhelming. 

Bundling requires careful consideration

Bundling services has become common practice, for good reason: Bundled packages offer customers greater value and are often easy to sell. In fact, 29% of surveyed businesses plan to launch entirely new products with bundled services, and 38% say they’re doing so to stay competitive. But as varying services are bundled together, the likelihood of communications tax complexity increases. Services like calling, SMS, videoconferencing, and click-to-call could each be subject to its own separate set of communications taxes, and how these are handled can vary greatly from jurisdiction to jurisdiction. In fact, in some states, including just one communications taxable item can make the entire bundle subject to communications tax.

Geographic expansions widen tax scope

Each time your business expands to a new market, the likelihood of communications tax complexity increases. At a time when cloud-based and virtualized, “over-the-top” environments make it possible to readily scale services for hundreds or thousands of different ZIP codes or even around the globe, this is an especially important consideration. Each new service area opens the door to new collection and filing requirements. That means virtually any fast-growing communications or technology business could soon find itself newly exposed to a wide range of state, county, and local communications taxes.

Mergers and acquisitions catch auditors’ attention 

Across the communications and technology industries, new offerings are being introduced at astonishing speed. Emerging trends are opening the door to new packages and portfolios, while mergers and acquisitions are broadening the volume of services companies are able to provide. In a recent survey of communications industry executives, 73% of companies have plans to merge or partner with other providers to increase service offerings. As these relationships continue to grow, communications tax auditors are watching announcements closely. 

Online selling increases complexity

For many companies, selling services on an ecommerce website is an essential part of remaining competitive. Because online payments are instant, unlike traditional billing cycles, it’s imperative to quote and calculate communications tax in real time — and to ensure your tax platform is hardened to mitigate downtimes. That “always-on,” frictionless customer buying experience is critical not only to decrease shopping cart abandonment, but also to help minimize communications tax risks.

Reselling creates additional demands

Whether it’s part of managed services or channel partnerships, reselling activity is highly likely to involve additional communications tax complexities. The communications tax treatment of any services you resell will need to be carefully aligned with the tax treatments of your partner, including mission-critical exemption certificates. As communications services become more intertwined, managed service providers find it necessary to expand their scope of offerings and, in doing so, dramatically increase their tax complexity.

Six best practices for communications tax compliance

Although the complexities of communications taxation aren’t likely to ease up any time soon, it is possible to be prepared. Several best practices can go a long way toward ensuring your business remains compliant.


Ensure tax preparation anticipates the pace of innovation

For many businesses today, a company’s greatest advantage is its pace of innovation. From a communications tax perspective, however, rapid innovation has the potential to increase compliance risks. As new offerings are being introduced at astonishing speed, it’s possible that many of the latest product launches will catch the attention of communications tax auditors. 

For this reason, it’s imperative that a member of your tax department has a seat at the table with product and marketing, and when it comes to planning for any mergers or acquisitions. That way, all team members can get a clear understanding of how pricing models, bundled pricing, and new communications features and offerings can impact tax treatment. 

When these departments understand the potential tax treatments of each new service or feature, billing becomes much more predictable and risks are much lower. In contrast, when divisions work in silos, the business could eventually find itself in a difficult situation where a new product has been selling for months before anyone is aware that collection and remittance need to take place.


Adopt a comprehensive, automated tax solution

Among communications and technology companies that perform well and have low audit risk, an astounding 73% report using end-to-end communications tax solutions. Nearly 70% automate tax returns and filing, and most use ERPs alongside comprehensive tax solutions. As a result, these best-in-class companies saw seven times better performance in total cost of audits and were three times more prepared to comply with communications tax obligations. 

These high performers understand the fundamental need for a comprehensive, complete platform. While most businesses have sales and use tax engines in place, these systems aren’t able to handle the complexities of communications taxes on their own. Moving forward, tax automation systems that unify the abilities to calculate sales and use tax as well as specialized communications taxes will be crucial.


Consider best-in-class, cloud-based SaaS technology

When it comes to adopting a reliable tax platform, flexibility is key. Communications tax rates and requirements change all the time, which means any system you use should be updated frequently. Integrations with other business-critical software are crucial, as is the ability to scale quickly as you build new products and promotions. 

For this reason, many communications and technology companies are turning to cloud-based platforms. Among best-in-class performers surveyed by research firm Aberdeen, 47% turn to SaaS for communications tax calculation and 31% use it for returns and filling. As companies innovate and open themselves up to new communications tax obligations, SaaS solutions can make it much easier to stay ahead of the latest fees, rates, and filing requirements. Because they’re continually updated, they remove much of the risk associated with an ever-changing communications tax landscape. 


Remain ready to adapt

As innovation and adoption of new communications technologies continue to accelerate, changes to the communications tax landscape are likely to follow suit. That means tax compliance will continue to be a moving target — and the only way to stay ahead is to continually adapt processes, tools, and technologies. Based on the latest surveys, 69% of best-in-class businesses have plans to change their tax management processes over the next two years.


Don’t gamble on your tax risk

If you don’t understand your potential for communications tax risk, find out! Seek legal advice to help you understand your current situation, your future business goals, and how the future state of the industry and the tax and regulatory environment might affect your business. Make an educated decision — you may discover it’s very clear whether you’re required to collect and remit communications tax or if you can continue with only sales and use tax. Or you may find yourself in the very common gray area of emerging technologies. From there, you can decide how to proceed. 


Optimize for the customer experience

It may not be the first consideration on your list, but the tax solutions you use can have a big impact on the customer experience. From real-time ecommerce transactions to accurate invoicing, there are countless areas where having the right software in place can make a big difference in sales and revenue. Do your research when selecting vendors to be sure any software you use will become a point of success — rather than failure — in your customer’s journey with your company. 


Be ready for today, future-proof for tomorrow

Whether you participate directly in the communications space or plan to incorporate communications features or streaming into your existing product, staying ahead of communications taxes will remain important. It can be easy to assume a business is liable for sales and use tax alone. But, the pace at which a growing array of businesses will face complicated communications taxes at the federal, state, county, and local levels will continue to increase. The sooner your organization can prepare for the complexities, the more likely you are to remain compliant and profitable.

The team at Avalara for Communications stays on top of the ever-changing communications tax ecosystem. Our SaaS-based solutions, industry knowledge, extensive tax experience, and exceptional service can help you successfully maximize tax efficiency and minimize tax risk. 

Contact Avalara today.