Treasury Proposes Regulations for Certain Digital Transactions

August 22, 2019

Earlier this month, the Department of Treasury proposed regulations (the “Proposed Regulations”) providing classification and source of income rules for cloud transactions and digital transfers of copyrighted materials. Although, these rules primarily apply to international tax provisions of the Internal Revenue Code, a significant portion of the Proposed Regulations are general and provide a potential foundation for the taxation of digital transactions that may be adopted in future tax guidance. The Proposed Regulations provide rules for transfers of copyrighted articles (i.e., rentals and purchases) and for cloud transactions (e.g., streaming content).

I. Digital Transfers of Copyrighted Materials

A digital transfer of copyrighted articles may be characterized for U.S. federal income tax purposes as either a sale or lease of property, depending on the facts and circumstances of the transaction. How the digital transfer is categorized will impact the determination of the source of the income (i.e., where the income originated from) for U.S. federal income tax purposes, which may determine if the transaction is subject to United States taxation or if certain credits or deductions are available.

For purposes of determining whether the source of income is the United States or another jurisdiction, a digital sale of copyrighted material is deemed to occur at the location of download, if available, or based on the customer’s sales data for business or financial reporting purposes. Customer sales data may include billing addresses or other customer information used for business purposes. If on the other hand, a copyrighted article is leased rather than sold, under general rental income sourcing rules, the income will be sourced to the United States if the copyrighted article is used or consumed in the United States.

In either characterization, the U.S. federal income tax treatment of a transaction also depends on whether the transferor of copyrighted material is engaged in a U.S. trade or business.

II. Cloud Transactions

The Proposed Regulations define a “cloud transaction” as a transaction through which a person obtains non-de minimis on-demand network access to computer hardware, digital content or other similar resources. Generally, cloud transactions include software-as-a-service (SaaS), platform-as-a-service (PaaS) and infrastructure-as-a-service (IaaS) transactions and other transactions that share characteristics of on-demand network access to technological resources, including streaming services and accessing databases.

Digital content means a computer program or any other content in digital format that either is or once was protected by copyright law, whether or not the content is transferred in a physical medium. While digital content is limited to copyrighted (or formerly copyrighted) material, the “other similar resources” language serves as a catch-all for various other online content.

The Proposed Regulations classify cloud transactions, for U.S. federal income tax purposes, as either the provision of services or the lease of property, based on the facts and circumstances of the transaction. If a cloud transaction is classified as providing services, a non-U.S. company may be subject to United States taxation on a net income basis. However, if a cloud transaction that is classified as a property lease, a non-U.S. company may be subject to withholding taxes or taxed in the United States on a net income basis. The Proposed Regulations provide a list of factors, which may vary in relevance depending on factual differences between different transactions, to determine whether a transaction should be treated as the provision of services or rental of property.1

Where multiple transactions exist between a provider and customer, each transaction should be classified separately. For example, buying music (i.e., a digital transfer of a copyrighted item) on iTunes should be viewed separately, and classified distinctly, from an Apple Music subscription (i.e., a cloud transaction) for purposes of applying the Proposed Regulations.

III. Examples

Streaming content on services such as Apple Music, Spotify, Hulu, Netflix or Amazon Prime are examples of cloud transactions for U.S. federal income tax purposes, as is utilizing server capacity provided by Amazon Web Services. By contrast, downloading (whether by purchase or rent) of digital audio or video content or an eBook from, e.g., Amazon or iTunes, is a transfer of copyrighted articles, rather than as a cloud transaction for U.S. federal income tax purposes.

While these common examples of digital transactions are clear examples, the Proposed Regulations take a broad approach and are intended to provide a framework for various digital transactions that may exist in the future.


1 These factors include:

  • Whether the customer is in physical possession of the property;Whether the customer does not control the property, beyond the customer’s network access and use of the property;
  • Whether the provider has the right to determine the specific property used in the cloud transaction and replace such property with comparable property;
  • Whether the customer does not have a significant economic or possessory interest in the property;
  • Whether the provider bears any risk of substantially diminished receipts or substantially increased expenditures if there is nonperformance under the contract;
  • Whether the provider’s fee is primarily based on a measure of work performed or the customer’s use rather than a mere passage of time; and
  • The total contract price substantially exceeds the rental value of the property.



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