California Governor Proposes Sales Tax on Digital Software

California Governor Gavin Newsom has proposed expanding the state’s sales tax to include digital prewritten software. The proposed move could increase costs for software and SaaS companies and draw comparisons with digital services taxes introduced against American companies in countries such as Canada and the UK. The proposal comes at a time when taxes targeting large technology companies have become a point of tension between governments and the US, with Canada scrapping its digital services tax after pressure from the Donald Trump administration threatened trade negotiations last year. While Canada’s digital services tax targeted revenues earned by big US tech companies, California’s proposal would result in a sales tax on digital software purchases, an effort to achieve parity between physical and digital software sales. The measure would require approval from California lawmakers and, if approved, would take effect January 1, 2027. Newsom argued that the existing system creates unequal treatment between consumers who purchase software in stores and those who download it online. According to a report by Business Insider, during a news conference, Newsom told reporters, “As someone who lives near a Best Buy, I'm at Best Buy often. And I'm paying sales tax on a lot of this prewritten software. And then I find out that all my friends that aren't near a Best Buy, they're downloading and they are not paying sales tax. How is that fair?” The proposal could affect companies operating in the cloud software and SaaS sectors, including Microsoft and Salesforce, at a time when software stocks have already faced pressure over concerns that generative AI tools could replace some traditional software services.

How California’s software tax compares with UK and Canada’s digital tax approaches

Some countries have considered or introduced taxes on technology companies, arguing that global firms earn large profits from local users but pay relatively little tax because of how they operate worldwide. Earlier, Canada introduced a 3% digital services tax (DST) on revenues above C$20 million earned by major technology companies, including Amazon, Meta, Google and Apple. However, the country later announced plans to rescind the tax to restart trade negotiations with the US after Trump described the policy as a “blatant attack” and threatened retaliatory tariffs. The UK also maintains a digital services tax framework targeting revenues generated by major online platforms. However, California’s proposal differs because it focuses on applying existing sales taxes to digital prewritten software purchases, rather than imposing a levy directly on technology companies’ revenues. Newsom said 35 US states already tax digital prewritten software, while 24 states have some form of SaaS tax.“By the way, 75% of those transactions we estimate are business-to-business. 75%. That's why we're not doing streaming,” he said, adding that the state legislature might feel differently about taxing streaming services.

How the proposal tax can generate billions in revenue for California

According to Newsom’s office, the proposed software tax is expected to generate $450 million in the current budget year and $900 million annually thereafter for California’s general fund. It is also projected to raise $560 million in local tax revenue initially and $1.1 billion in subsequent years. The proposal is part of Newsom’s $350 billion spending plan, which aims to keep California without a budget deficit for 2 years. The global debate over taxing digital services and software is ongoing, with proponents arguing that the measures are a way to modernise tax systems for digital economies. Critics have warned that the costs may ultimately be passed on to businesses and consumers.