California Legislature passes significant sales and use tax changes for software sellers

California’s budget legislation could represent the most significant expansion of the state’s sales tax base in decades.

In preparation for the potential requirement to collect and remit California sales and use tax beginning Jan. 1, 2027, software sellers should examine their U.S. sales tax profile and begin to consider updated sales tax compliance procedures in anticipation of the legislative change.

SB 122 expands taxability

The California Legislature passed SB 122, and the bill is now awaiting the governor’s signature. If enacted, it would expand the sales tax base to include SaaS, electronically delivered software, and certain digital products beginning Jan. 1, 2027.

The current language excludes some digital items from the proposed sales tax expansion, including video game products, music, books, movies, and other digital assets like cryptocurrencies.

A major California shift

California generally hasn’t imposed sales tax on remotely accessed software or electronically delivered software, so many software businesses based in California had little or no sales tax liability across the U.S. However, the legislation would change that landscape dramatically by treating many digital products as taxable tangible personal property.

Multistate tax impact

Specifically, companies whose largest market is California may have delayed sales tax registration and collection obligations in other states because their California sales were generally not taxable.

In turn, those businesses should now reassess their multistate sales tax profile and quantify any potential incremental sales tax liability as a result of the newly passed legislation. Additionally, impacted businesses should evaluate the need for any additional sales and use tax compliance procedures in anticipation of the legislation becoming law.

Compliance takes coordination

If the legislation is enacted, businesses that delay compliance planning until late 2026 may not have enough time to implement the required systems. Sales and use tax compliance, as a result of the legislation, if signed, will likely require coordination across several departments.

• Specifically, teams may need to:
• Assess incremental sales tax liability
• Review contracts for legal implications
• Update billing processes
• Modify customer data collection systems
• Understand the impact of the legislation on pricing and customer communications

Plan ahead for compliance

Many software companies underestimate how long it may take to become sales tax compliant after a significant legislative change. Generally, required nexus studies, product taxability reviews, registrations, tax engine implementation, exemption certificate procedures, contract updates, and internal training often require months to complete. Businesses that wait until final regulations are issued may find themselves with insufficient time to implement the systems and processes needed to comply by Jan. 1, 2027.

Accordingly, businesses should consider consulting with their state and local tax advisors to understand the potential impact on their business if the legislation passes. Actions should include:

• Evaluate which products qualify as taxable digital products and which may fall under statutory exclusions or exemptions.
• Understand what changes will be required to billing platforms and tax engines to calculate the appropriate state, local, and district sales taxes as a result of the potential legislative change.

What’s next?

In anticipation of the legislation becoming law, software sellers should use the remaining months of 2026 to coordinate with their state and local tax teams to evaluate their sales tax footprint and potential impact of the legislation, and establish a scalable compliance process.