California’s recently enacted budget for 2026–2027 (S.B. 122) carries a significant shift in sales and use tax policy, as the state will begin imposing sales tax on digital prewritten software regardless of delivery method, including electronically delivered software and remotely accessed software-as-a-service, effective Jan. 1, 2027. The change in tax policy is estimated to raise around $900 million to $1.1 billion in annual sales tax revenue for the state.
Historically, California has taxed prewritten software only when transferred on tangible media, while downloaded software and remotely accessed software often fell outside the sales tax base. Under the new law, prewritten software will be specifically defined as tangible personal property. Custom software, separately stated modifications to prewritten software, and certain digital products (e-books, music, videos, and games) will remain exempt from sales tax. Additionally, services related to the taxable software purchases will remain exempt from sales tax if they primarily involve the application of human effort.
The bill also introduces sourcing rules to properly apply sales tax to California-based sales of electronically delivered products. Transactions will be sourced in the following order:
For taxpayers who make large purchases of software, retailers will be relieved from sales tax collection responsibility if the annual receipts from software sales with that customer exceed $5 million for the calendar year. In those situations, the purchaser will become responsible for calculating and remitting use tax directly to the California Department of Tax and Fee Administration (CDTFA).
This change in sales tax policy will affect sellers and purchasers alike. Taxpayers should review the bill text and take the opportunity to prepare for the upcoming changes in 2027. GBQ will provide updates as applicable if additional guidance is provided by the CDTFA.
Contact your GBQ representative if you have questions or if you would like to discuss the foregoing in greater detail. In the meantime, learn more about GBQ's state and local tax services.