Colorado and Massachusetts Analyze Sales/Use Tax Consequences for DNA Testing

At a glance

• The main takeaway: Colorado and Massachusetts address the sales tax treatment of DNA testing services where the customers also received testing kits.
• Assess the impact: These two rulings illustrate the importance for businesses to consider the sales and use tax consequences of their transactions, especially those involving services and property.     
• Take the next step: Aprio’s State and Local Tax (SALT) team can help determine your company’s sales and use tax obligations for services it provides as well as items it purchases and then transfers to customers pursuant to that service.

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The full story

Recent sales and use tax rulings, one issued by Colorado and the other by Massachusetts, highlight each state’s application of the “true object” test to determine that the Company was not required to collect sales tax from customers, and how that determination led to use tax obligations for the Company.[1]

A deeper dive into the cases

In each ruling, the Company provided DNA testing and analysis to individuals all over the U.S. and abroad. Customers purchased an ancestry test from the Company’s website, and the Company shipped a test kit to them. After customers used the kit to collect their saliva, they mailed the kits to the Company’s lab for testing. After the Company completed the DNA analysis, customers could access individualized reports online through the Company’s website.

In the states’ analyses to determine whether the Company needed to collect sales tax from customers, both Colorado and Massachusetts noted that the sale includes both services (the DNA analysis) and tangible goods (the testing kit).

Colorado described the testing kits as, “integral to and thus inseparable from the service.” Since the tangible goods and the service were inseparably mixed, Colorado determined that the taxability of the entire transaction depended on the true object of the transaction, which Colorado concluded was the DNA analysis that produced ancestral and health history reports as opposed to the testing kit itself. Since DNA analysis services are not among the services explicitly subject to tax in Colorado, the state ruled that the Company provided a nontaxable service.

On the other hand, Massachusetts’ analysis described that a service is not taxable when the real object of the transaction is the service itself and an “inconsequential” transfer of tangible goods occurs, where the purchase price of the tangible goods is not separately stated. The state’s regulation defines “inconsequential” to mean that the value of the tangible property transferred is less than 10% of the total charge.[2]

With respect to the Company’s sales, the ruling stated that the Company provided customers with a DNA testing and analysis service, so the state determined that the real object of the transaction was the service and not the testing kit. The service itself was determined to be nontaxable since sales of a report of individual information (i.e., information that is specific to the purchaser and may not be or is not substantially incorporated into reports provided to others) are not taxable.[3]

The ruling then concluded that the transfer of the testing kit was “inconsequential” since it was noted in the facts that the test kit has a value of less than $1 while the cost of the DNA testing and analysis service is generally $99 (i.e., the value of the tangible property is less than 10% of the total charge).  

Once both states concluded that the Company did not need to collect sales tax from customers, both states focused their analysis on the Company’s use tax considerations. As a service provider, the Company is considered the user or consumer of property (i.e., the testing kits) in performance of the DNA analysis services. 

The Colorado ruling noted that the Company pays sales tax to State X when the saliva kits are purchased but that the Company nonetheless owes use tax to Colorado for the use of the kits shipped to consumers in Colorado. However, the Company may credit the tax already paid to State X toward the use tax owed to Colorado (first to the state-level use tax and then to any local use tax).  As such, the Company may or may not owe additional use tax to Colorado at the state and/or local level depending on the use tax rates. The Massachusetts ruling described a similar use tax obligation for test kits that are transferred to customers in the state. 

These two rulings illustrate each state’s application of the true object test to determine whether customers were truly purchasing the service or the tangible good. While both states determined that the Company was providing a nontaxable service, each states’ analyses highlighted that the resulting service may be viewed differently among states. In addition, the rulings serve as an important reminder that businesses need to consider both sales tax and use tax obligations when analyzing transactions, since the treatment of a business’ sales to customers will impact the business’ use tax obligations for items it purchases and then transfers to customers in connection with that service. 

The bottom line

Aprio’s SALT team has experience helping businesses understand the various sales and use tax considerations of their transactions. Our goal is to ensure that your business complies with its sales and use tax obligations and does not incur unexpected liabilities and penalties. In addition, we can assist to make sure that your business receives the proper use tax credit for items it purchases in one state but subsequently uses in other.  

We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.

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[1] Colorado Private Letter Ruling No. PLR 24-007, 07/02/2024; Massachusetts Letter Ruling No. 24-1, 06/12/2024. We suspect this is the same taxpayer that sent ruling requests to multiple states.

[2] 830 CMR § 64H.1.1(1).

[3] 830 CMR § 64H.1.3(8)(b).