Yes. As of January 1, 2023, SaaS (software as a service) transactions are subject to Kentucky’s 6% sales and use tax. However, for SaaS to be taxable in Kentucky, certain criteria have to be met, and there are exceptions.
What does taxability mean for SaaS?
SaaS taxation varies significantly across the United States, in part because the technology is relatively new and doesn’t fit easily into some states’ tax classification systems. Unlike traditional software, which is usually purchased once and installed directly on a user’s device, SaaS users pay a subscription fee to access the software online — typically via the provider’s website.
Taxability can hinge on how SaaS is defined by each state. While physical goods or services are clearly classified in most tax codes, SaaS often falls into a gray area. This makes it essential for SaaS providers to understand the SaaS tax laws in each state they operate in.
Why SaaS taxability differs across states
SaaS taxability can depend on how a state classifies it, whether that be as tangible software, a service, or something else. For example, Tennessee considers all software taxable regardless of how a person accesses it, while Ohio classifies SaaS and taxes it as tangible personal property. Meanwhile, certain states exempt it from sales tax entirely.
SaaS taxation rules in Kentucky
In the past, many forms of SaaS were exempt from Kentucky’s sales and use tax, as the state did not consider software accessed through the cloud or a provider’s server taxable. However, with the passage of House Bill 8, Kentucky began taxing “prewritten computer software access services” — in other words, SaaS. This 6% tax applies to both business-to-business (B2B) and business-to-consumer (B2C) transactions. Although this tax rate is also consistent across different nexus types, it’s helpful to understand how nexus functions in Kentucky.
How does nexus work in Kentucky?
In many states, including Kentucky, “nexus” refers to the type of activity or presence that creates a tax obligation for a business. Nexus is generally categorized as either physical or economic. In Kentucky, the requirements for each nexus type include:
- Physical nexus: Businesses that have offices, servers, employees, or inventory, or anything else that establishes a tangible physical presence in the state, have physical nexus in Kentucky. Having temporary employees, including contractors and freelancers, in Kentucky can also establish nexus. Once physical nexus is established, sales and use tax must be collected and remitted on all taxable sales made within Kentucky.
- Economic nexus: SaaS providers who do not have a physical presence in the state may still have economic nexus in Kentucky. Economic nexus is established when a company has either gross receipts that exceed $100,000 or 200 (or more) separate transactions in Kentucky for the current or previous calendar year.
Businesses with an economic nexus are often referred to as “remote retailers,” as defined by House Bill 487. Whether you operate as a remote retailer or have physical nexus, you must register for a sales tax permit.
Are there tax exemptions for SaaS in Kentucky?
House Bill 8 introduces exemptions that may benefit SaaS providers. The legislation states that, starting January 1, 2025, the gross receipts exemption for taxable services will rise from $6,000 to $12,000 annually. This means that businesses that earn less than $12,000 in sales in Kentucky during a calendar year won’t need a sales tax permit. However, once a business exceeds this threshold, all sales above $12,000 are taxable. At that point, a provider will need to get a permit and to collect (and remit) taxes on sales in the state.
Careful recordkeeping is key for companies who believe they qualify for this gross receipts exemption. If Kentucky-specific sales exceed that $12,000 threshold and the appropriate compliance steps aren’t taken, a company could lose the ability to operate legally within the state until they resolve their tax obligations.
Are digital goods taxable in Kentucky?
Digital goods that are purchased for storage, use, or other consumption in Kentucky are subject to sales tax. According to the Kentucky Department of Revenue, this tax also applies to digital goods that are purchased outside the state that will be stored, used, or consumed within Kentucky.
In addition, digital goods may qualify for the gross receipts exemption outlined by House Bill 8, which increases the threshold to $12,000 annually starting January 1, 2025. Hybrid digital services that integrate digital goods with SaaS features, such as video conferencing or file-sharing platforms, are also taxed under Kentucky’s broader definition of prewritten software.
How local tax rates apply
According to the Kentucky Department of Revenue, there are no additional local sales and use taxes in the state. This means that SaaS is subject only to the statewide tax rate. As of November 2024, the sales and use tax rate is 6%, applied to gross receipts or purchase price.
There are no variations in the tax rate for SaaS companies that have economic nexus (those retailers are also known as “remote retailers”) or physical nexus.
The location of a provider’s customers within the state also has no impact on overall tax rate. For example, if the subscription cost for a SaaS product was $3500, the applicable tax would be $210. This will typically be collected when the customer in Kentucky pays their subscription fee.
How to stay compliant in Kentucky in 4 Steps
In order for SaaS providers in Kentucky to stay compliant, they must follow these essential steps
- Register: Companies that reach a nexus threshold in Kentucky — either physical or economic — are required to apply for a sales tax license. This license is necessary for collecting and remitting sales tax. Registration can be completed using two methods: Paper Application: Instructions are available through the Kentucky Department of Revenue (Kentucky DOR), though they caution that this process may take several weeks. Online Registration: For faster processing, businesses can register through the Kentucky Business One Stop Portal. This method may be more efficient and user-friendly.
- Collect: Once registered, SaaS providers must collect the 6% statewide sales tax from all Kentucky-based customers. Since Kentucky has no additional local sales tax, the rate is consistent across the state. For SaaS providers, this tax is typically added to subscription charges and collected at the time of sale, which may include initial subscriptions, renewals, or upgrades.
- File: Sales tax returns must be submitted to the Kentucky DOR based on the specific frequency assigned to your business: monthly, quarterly, or annually. Your filing schedule is determined by the volume of your taxable sales. The Kentucky DOR lists the due dates for taxes month-by-month here, and returns can be filed through the Kentucky Business One Stop Portal.
- Remit: Along with filing returns, businesses must remit the sales tax collected from customers to the Kentucky DOR. Filing and remitting taxes are typically done simultaneously through the Kentucky Business One Stop Portal. Payments must be made by the assigned due date to stay compliant.
Although Kentucky’s tax structure is relatively straightforward, it is still possible to make mistakes. Staying compliant can be a challenging task, and even minor errors can have serious consequences. Noncompliance may result in high penalties, accruing interest charges, and an increased likelihood of a business audit. To avoid these and other unnecessary repercussions, effective tax compliance tools like Numeral can be essential. SaaS providers may also want to use the tax compliance resources provided by the Kentucky Department of Revenue.
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Resolving issues in Kentucky
Businesses can contact the Kentucky DOR directly through their Contact Us page or by calling (502) 564-4581.
The bottom line
Although SaaS providers may have previously enjoyed tax-exempt status, House Bill 8 has made it mandatory to collect and remit sales and use tax in Kentucky. In order to stay compliant, SaaS companies can benefit from:
- Determining whether they have physical nexus (real estate, employees, property, or other assets in the state) or economic nexus (over $100,000 in gross sales into the state or conducting 200 or more separate sales transactions during the current or previous calendar year).
- Collecting the statewide sales tax rate of 6% on all transactions, including new subscriptions and renewals
- Keeping detailed records and submitting accurate sales tax returns according to the deadlines set by the Kentucky Department of Revenue.
- Remitting the correct amount of taxes to the state along with your returns.
Utilizing resources provided by Kentucky or tax compliance platforms like Numeral can simplify this process. By leveraging these resources and staying up to date on changes in tax law, SaaS providers can avoid expensive consequences and continue providing the services their customers require.
