California Will Tax Digital Products and SaaS Starting January 1, 2027: What Software Vendors and Buyers Need to Know

Quick answer: Starting January 1, 2027, California will apply sales and use tax to the retail sale of “digital products,” defined as prewritten computer software delivered on physical media, delivered electronically, or accessed remotely. That definition captures most Software-as-a-Service (SaaS) subscriptions. The change comes from Senate Bill 122 (Stats. 2026, Ch. 23), which adds digital products to California’s definition of tangible personal property. Custom software, cloud infrastructure (IaaS/PaaS), digital media, and several other categories are excluded or exempt.

Key takeaways

• Effective date: January 1, 2027, for sales and use tax on covered digital products.
• What’s taxable: Prewritten software on media, downloaded, or accessed remotely, including most SaaS.
• What’s excluded from the definition: Digital assets (crypto), digital audio, digital audiovisual works, e-books, digital infrastructure (IaaS/PaaS), digital video games, and digital visual works.
• What’s exempt: Custom software, qualifying human-effort services delivered electronically, sales for resale, reproduction/distribution rights, and products purchased solely for use outside California.
• $5 million threshold: When one retailer’s electronically delivered or remotely accessed digital-product sales to a single purchaser exceed $5,000,000, the tax obligation can shift to the purchaser.
• Registration: In-state and out-of-state sellers engaged in business in California generally must register with CDTFA, file, and remit. Purchasers may owe use tax directly.
• Status: CDTFA is drafting emergency regulations. Direct-payment and waiver procedures may still change.

What is California SB 122?

Senate Bill 122 expands California’s definition of “tangible personal property” to include digital products, whether transferred on physical media, transferred electronically, or accessed remotely. Because sales and use tax has always applied to tangible personal property, folding digital products into that definition brings them under the same tax machinery that applies to physical goods.

Operationally, the law treats as a taxable sale any permanent or temporary transfer, for consideration, of the right to open, view, access, download, copy, update, possess, store, manipulate, or otherwise use a digital product that is transferred electronically or accessed remotely. A transfer on tangible storage media for consideration is also a taxable sale.

What counts as a “digital product” under California law?

A digital product is prewritten computer software that is transferred on tangible storage media, transferred electronically, or accessed remotely.

That definition deliberately includes SaaS when the arrangement gives the customer the right to access and use the provider’s prewritten software running on cloud infrastructure, or to access that software from client devices through a thin-client interface (such as a web browser) or a program interface.

Prewritten vs. custom software: the distinction that drives taxability

Prewritten computer software is software held or existing for general or repeated sale or lease, even if it was originally developed on a custom basis or for in-house use. Combining two or more prewritten programs still produces prewritten software.

Custom computer software is software prepared to the special order of a single customer, including separately stated charges for modifications to existing prewritten software made to the customer’s special order. Custom software is exempt under the guidance implementing SB 122.

Because the tax targets prewritten software, whether a given offering is “prewritten” or “custom” is the first question every vendor and buyer should answer.

Is SaaS taxable in California starting in 2027?

Generally, yes, when the offering is in substance access to prewritten computer software. But not every product marketed as “SaaS” is automatically taxable. Taxability turns on what the customer is actually buying:

• Access to prewritten software → taxable digital product
• Cloud infrastructure that lets customers deploy and run their own software (IaaS/PaaS) → excluded
• A service that primarily involves human effort performed after the customer’s request → exempt

Vendors that bundle software access with professional services should review how those charges are stated and structured.

What is excluded from the definition of a digital product?

The following are not digital products under SB 122. They fall outside the tax base entirely, rather than being covered-but-exempt:

Why the exclusion vs. exemption distinction matters: An excluded item is never in the tax base. An exempt item is covered but relieved from tax, which usually means satisfying a condition and keeping documentation such as an exemption or resale certificate.

What exemptions apply to digital products in California?

Several exemptions apply to products that would otherwise be taxable digital products.

Custom computer software

Software prepared to the special order of a single customer is exempt. It does not include prewritten software held for general or repeated sale, even if originally custom-built.

Human-effort services delivered electronically

A digital product that represents a service provided in electronic form is exempt if both conditions are met:

1. The service primarily involves the application of human effort by the service provider, and
2. That human effort originated after the customer requested the service.

This exemption does not cover the right to use the provider’s software on cloud infrastructure or to access it through a browser or program interface. In other words, it does not shelter SaaS access itself.

Sales for resale

Digital products sold for resale are not subject to sales tax when the seller timely accepts a valid resale certificate in good faith.

Reproduction and distribution rights

The sale or lease of the right to reproduce or copy a digital product for distribution to third parties for consideration is exempt, even if a copy is provided on tangible media (treated as incidental).

Sole out-of-state, interstate, or foreign use

A digital product purchased solely for use outside California, or in interstate or foreign commerce, is exempt. A seller that takes an exemption certificate in good faith is relieved from collecting tax. If the purchaser later makes a taxable California use, the purchaser becomes liable as if it were a retailer making a retail sale at that time.

How are digital product sales sourced in California?

Local and district tax allocation follows the place of sale. For digital products transferred electronically or accessed remotely:

In-person sales. If sold in person at a seller’s California location where the seller must hold a seller’s permit, the place of sale is that California place of business.

Remote sales. If not in person, the place of sale is the purchaser’s known California address in the seller’s good-faith records.

When the purchaser provides more than one California address, sellers apply this priority order:

1. Billing address
2. Shipping or delivery address
3. Mailing address associated with the payment instrument
4. Mailing address

If no address is provided during the transaction, the seller uses the most recent previously provided California address in the same order. If no California address is available, the sale is treated as occurring outside California.

What is the $5 million rule for digital products?

SB 122 includes a threshold that can shift the reporting and payment obligation from the retailer to the purchaser for electronically delivered or remotely accessed digital products.

• 2027 measurement. For calendar year 2027, a retailer may be relieved of the obligation to collect tax when its aggregate gross receipts from electronically delivered or remotely accessed digital-product sales to the same purchaser exceed $5,000,000.
• 2028 and later. The same $5,000,000 threshold is measured on a current-or-preceding-calendar-year basis.
• The crossing transaction. The purchaser becomes liable for use tax on the transaction that pushes the retailer over the threshold, and on later covered transactions.
• Direct-payment mechanics. The purchaser must obtain a Use Tax Direct Payment Permit, issue the retailer a Use Tax Direct Payment Exemption Certificate, and report and pay use tax (including local and district taxes) directly to CDTFA.
• Insurers. Insurers are excluded from the threshold rule; use tax does not apply to their storage, use, or consumption of tangible personal property.
• Waiver. CDTFA may waive the purchaser’s direct-reporting requirement if necessary for efficient administration. The purchaser must submit a waiver request identifying all places of business expected to be a place of first use.
• Inflation adjustment. The $5,000,000 figure adjusts for the California CPI beginning with the calculation due by October 1, 2031, and every five years thereafter.

Who must register with CDTFA for digital product sales?

Sellers

Retailers selling digital products for use in California generally must register with CDTFA, report and pay sales tax or collect use tax, maintain adequate records, and properly allocate local and district taxes. Out-of-state retailers may need to register if they are considered engaged in business in California.

Marketplace facilitators

Marketplace facilitators that facilitate sales of electronically delivered or remotely accessed digital products for marketplace sellers may need to register for a seller’s permit or a Certificate of Registration—Use Tax.

Purchasers

On and after January 1, 2027, a purchaser may owe use tax directly to CDTFA when:

• The retailer is relieved under the $5 million threshold rule;
• The product is bought for California use from an out-of-state seller that is not registered, or is registered but not collecting; or
• The purchaser issued an exemption certificate but then made a taxable use.

A digital product bought outside California and used in California within 90 days of purchase is presumed to have been purchased for California use.

Action checklist: what to do before January 1, 2027

1. Inventory and classify every offering as prewritten software, SaaS access, custom software, digital infrastructure (IaaS/PaaS), a human-effort service, or an excluded category.
2. Map customers by California address so billing systems can apply the sourcing hierarchy for remote sales.
3. Assess registration obligations now, including out-of-state engaged-in-business analysis and marketplace-facilitator status.
4. Build exemption-certificate processes for resale, reproduction/distribution rights, and sole out-of-state or interstate use.
5. Track same-retailer, same-purchaser volume to spot when the $5,000,000 threshold may be crossed, and prepare direct-payment permit and certificate workflows.
6. Update billing, tax-determination, and contract language before the effective date, and monitor CDTFA’s forthcoming emergency regulations.

Frequently asked questions

When does California start taxing digital products?
January 1, 2027. Sales and use tax applies to covered digital products sold or used in California on and after that date.

Is SaaS subject to California sales tax in 2027?
Generally yes, when the arrangement gives the customer the right to access and use the provider’s prewritten software through the cloud, a web browser, or a program interface. Digital infrastructure (IaaS/PaaS) and qualifying human-effort services are treated differently.

Are e-books, music, and streaming video taxed under SB 122?
No. Digital books, digital audio works, and digital audiovisual works are excluded from the definition of a digital product.

Is custom software taxable in California?
No. Software prepared to the special order of a single customer, including separately stated custom modifications to prewritten software, is exempt.

Is cloud infrastructure like AWS or Azure taxable under SB 122?
IaaS and PaaS that let customers create, deploy, scale, or run their own software are excluded from the definition of a digital product.

What is the $5 million rule?
When a single retailer’s electronically delivered or remotely accessed digital-product sales to the same purchaser exceed $5,000,000, the obligation to report and pay tax can shift to the purchaser, who must obtain a Use Tax Direct Payment Permit and pay CDTFA directly.

Do out-of-state software companies have to collect California tax?
Out-of-state retailers that are engaged in business in California generally must register with CDTFA and collect use tax on taxable digital-product sales to California customers.

Which law created the California digital products tax?
Senate Bill 122 (Stats. 2026, Ch. 23), which expands the definition of tangible personal property to include digital products.

The bottom line

Starting January 1, 2027, California will tax most prewritten software delivered electronically or accessed remotely, including the majority of SaaS arrangements, while carving out defined exclusions (digital infrastructure, digital books, digital media) and preserving key exemptions (custom software, human-effort services, resale, reproduction rights, sole out-of-state use). Software vendors, marketplace facilitators, and business buyers with significant California software spend should classify their products, fix their sourcing and certificate processes, and watch for CDTFA’s emergency regulations.

Need help classifying your products or assessing California registration exposure? Contact Pasquesi Partners to discuss your specific situation.