How does New York sales tax apply to selling, leasing, and using a medical PAP-smear screening device and a slide-scanning service?

Plain-English summary

Neuromedical Systems, Inc. manufactures, sells, and leases a semi-automated "Classifier" device that uses computer imaging to screen cervical (PAP) smears, flagging the most unusual cells for a technologist to review. It also planned to run a slide-scanning service that returns magnetic media of cell images (but no diagnosis) to sending labs. It asked sixteen questions about sales tax.

The Department's answers group into a few clear rules:

• Selling or leasing the device to a NY lab is taxable. Even though the Classifier is medical equipment, the exemption in Tax Law 1115(a)(3) does not cover equipment purchased to perform medical or similar services for compensation (labs are such users). A lease is a taxable retail sale too (Tax Law 1101(b)(5)), and the cost-per-slide pricing doesn't change that.
• Delivery controls -- sales tax is a "destination tax." Any sale or lease delivered outside New York is not subject to New York tax. The same out-of-state rule runs through nearly every answer.
• "No diagnosis" scanning = selling tangible personal property. Because the service returns magnetic media of images without a diagnosis, the Department treats it as a sale of the media -- taxable under Tax Law 1105(a) unless delivered out of state (Answers 3, 12).
• Inputs for the product are exempt or for resale. Out-of-state component parts that become part of devices for sale/lease are purchases for resale (not taxed, Answer 5). Magnetic tapes transferred to customers are also bought for resale (give Form ST-120, Answer 14). Property used directly in R&D (Tax Law 1115(a)(10)) or directly and predominantly in production (Tax Law 1115(a)(12)) is exempt (Answers 6, 10, 11).
• Services on the device are taxable. System integration and repair/maintenance charges are taxable services under Tax Law 1105(c)(3) -- again unless performed/delivered out of state (Answers 6, 9).
• Free-to-customer and demo equipment is taxable to the buyer. The review stations placed free at customers' sites are not resold and not part of production, so their components are taxable (use tax if bought untaxed; not taxed if the station sits outside New York) (Answers 13, 15). Components for training/demonstration machines are taxable -- neither production nor resale (Answer 16).

What this means for you

Medical-device makers, labs, and distributors

Medical equipment isn't automatically exempt. When a device is sold to a lab or provider that uses it to perform services for compensation, the section 1115(a)(3) exemption doesn't apply and the sale is taxable. Watch the delivery point -- out-of-state delivery keeps New York tax off the transaction.

Data/imaging services: the "diagnosis" line matters

A service that hands back raw data or images without a professional diagnosis can be recharacterized as a taxable sale of tangible personal property (here, the magnetic media). Whether you deliver a professional judgment or just data can flip the tax result.

Manage your input purchases with the right certificates

Parts that become part of a product for sale, and media you transfer to customers, are purchases for resale (Form ST-120). Property used directly in R&D or production is exempt with an exempt use certificate. But equipment you give customers for free, or use for demos/training, is taxable to you.

Common questions

Q: Isn't a PAP-smear screening device exempt medical equipment?
A: Not when it's sold to a lab that uses it to perform medical or similar services for compensation -- that use falls in the section 1115(a)(3) carve-out, so the sale is taxable.

Q: We deliver the device to a customer outside New York -- do we charge NY tax?
A: No. New York sales tax is a destination tax; a sale or lease delivered outside New York isn't subject to it.

Q: Our scanning service returns images but no diagnosis -- is that a taxable service or a sale?
A: The Department treats it as a taxable sale of the magnetic media (tangible personal property), not an exempt service, because no diagnosis is provided.

Q: Are our R&D and production purchases exempt?
A: Property used directly in R&D (section 1115(a)(10)) or directly and predominantly in production (section 1115(a)(12)) is exempt. But equipment given free to customers or used for demos/training is taxable.

Q: Can I rely on this opinion?
A: It binds the Department only as to the petitioner and the facts described. Treat it as guidance and confirm your own facts.

Citations and references

• Tax Law section 1115(a)(3) (medical equipment exemption; carve-out for equipment used in performing services for compensation)
• Tax Law section 1105(a) (sales tax on retail sales of tangible personal property)
• Tax Law section 1101(b)(4)(i) and 1101(b)(5) (retail sale; leases; resale exclusion)
• Tax Law section 1105(c)(3) (installing/servicing/repairing tangible personal property)
• Tax Law section 1115(a)(10) (research and development exemption)
• Tax Law section 1115(a)(12) (production-machinery exemption)
• 20 NYCRR 525.2 (sales tax as a destination tax); 528.11(b) (R&D)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/sales_ao_1993.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/sales/a93_36s.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-93 (36)S
Sales Tax
June 14, 1993

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. S920709A

On July 9, 1992 a Petition for Advisory Opinion was received from Neuromedical Systems,
Inc., 2 Executive Boulevard, Suffern, New York 10901.
Petitioner, Neuromedical Systems, Inc., has set forth various questions concerning the
application of New York State and local sales and use tax to its business of manufacturing, selling
and leasing a semi-automated device for use in the screening of cervical (PAP) smears and has also
requested affirmation of previous correspondence from the Technical Services Bureau. Because of
the information submitted by Petitioner in the Petition for Advisory Opinion, the questions submitted
in the previous correspondence will be readdressed in this Advisory Opinion in Questions and
Answers 1 through 9. The information requested by specific questions presented in the Petition for
Advisory Opinion will be addressed in Questions and Answers 10 through 16.
Petitioner is in the business of manufacturing, selling and leasing a semi-automated device,
referred to as a "Classifier", for use in the screening of cervical (PAP) smears.
The "Classifier" will use advanced computer technology to analyze PAP smears, selecting
the sixty-four most unusual looking cells from each slide and displaying them on a color video
monitor for review by qualified medical technologists.
The main components of the system include an automated microscope, color video monitor
and advanced computer software which links the units together, and allows them to function
effectively as one.
Currently, the component hardware parts of the system are purchased outside of New York
State. Software research and development and integration of the entire system is performed within
New York State. Integration consists of linking the system together both physically and with
software.
Petitioner anticipates it will sell and/or lease these systems both within and without New
York State.
The "Classifiers" are by nature very delicate and normal shipping stress will necessitate the
"Classifiers" to be realigned. Labor necessary for the re-alignment or re-calibration is considered to
be significant.
Petitioner is also considering whether to enter into an agreement to process slides for non­
related medical laboratories on a price per slide basis. Petitioner would process (scan for cancerous
cells or malignancies) all slides received by Petitioner's laboratory located in New York State.
Pictures of the 128 most unusual looking cells from each slide to be considered for diagnosis would
be transferred to magnetic media (magnetic tape). The magnetic media would contain only pictures

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of cells from each slide with no formal diagnosis. The media would be returned to the sending
laboratory (Petitioner's customer) where Petitioner would provide reviewing stations for trained
cytologists (employees of the sending laboratory) to review the data contained in the media and
render a diagnosis.
The review stations located at the sending laboratories would belong to Petitioner and would
be provided without charge. Diagnosis would be performed by employees of Petitioner's customers,
the sending laboratories.
The following are the questions submitted by the Petitioner and the answers thereto.
Question 1:

Assuming the "Classifiers" are sold to laboratories, would such a sale be
subject to New York State and Local sales tax?

Answer 1:

Section 1115(a)(3) of the Tax Law provides an exemption from sales and use
tax for receipts from certain retail sales including receipts from retail sales of
"medical equipment and supplies required for use in the cure, mitigation,
treatment or prevention of illnesses or diseases in human beings ... or to
correct or alleviate physical incapacity, ... but not including ... medical
equipment (including component parts thereof) ... purchased at retail for use
in performing medical and similar services for compensation."
Section 525.2 of the Sales and Use Tax Regulations defines the sales tax in
part, as '... a "destination tax", that is, the point of delivery or point at which
possession is transferred by the vendor to the purchaser or designee controls
both the tax incident and the tax rate .... '
New York State Department of Taxation and Finance Publication 840
(11/88), New York State and Local Sales Tax Information for Drugstores
states, on page 3, that "[s]ales of medical equipment and supplies are exempt
from New York State and local sales and use taxes under certain
circumstances.
All medical equipment and supplies purchased for use in providing medical
or similar services (services of ... clinical laboratories...) for compensation are
taxable .... "
Petitioner's sales of "Classifiers" to laboratories located within New York
State for use in performing a medical or similar service for compensation will
not qualify for the exemption provided under Section 1115(a)(3) of the Tax
Law but will fall within the exclusion provided under Section 1115(a)(3) and
therefore will be subject to New York State and local sales tax. However, any
sales of "Classifiers" to laboratories located outside New York State will not
be subject to New York State or local sales tax provided delivery occurs
outside New York State.

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Question 2:

Assuming the "Classifiers" are leased to laboratories, based on a cost per
slide, would such a lease be subject to New York State sales tax?

Answer 2:

Section 1101(b)(5) of the Tax Law defines sale, selling or purchase as "[a]ny
transfer of title or possession or both, exchange or barter, rental, lease or
license to use or consume .... "
Section 1101(b)(4)(i) of the Tax Law defines retail sale as "[a] sale of
tangible personal property to any person for any purpose, other than (A) for
resale as such or as a physical component part of tangible personal property
.... "
Petitioner's lease of a "Classifier" to a laboratory (lessee) will be considered
to be a retail sale under the provisions of Section 1101(b)(4)(i) and
1101(b)(5) of the Tax Law. Accordingly, Petitioner's receipts from charges
to the lessee of a "Classifier" will be subject to New York State and local
sales tax where delivery occurs to a lessee located within New York State.
The receipts from charges to a lessee located outside New York State will not
be subject to state or local sales tax provided delivery to the lessee occurs
outside New York State.
The method of determining the amount of the lease payment due, in the
instant matter on a cost per slide basis, will not have any consequence in
determining the amount of sales tax due.

Question 3:

If Petitioner provides slide screening services to the general public or to the
medical profession, would the service be subject to New York State sales
tax?

Answer 3:

Since Petitioner's slide screening service does not result in Petitioner
presenting clients with a written diagnosis but instead results in Petitioner
furnishing the client with a form of magnetic media containing pictures of the
128 most unusual looking cells on each slide submitted by the client,
Petitioner is considered to be selling tangible personal property to the client.
Petitioner's receipts from the sales of the magnetic media to the clients will
be subject to the tax imposed under Section 1105(a) of the Tax Law except
in instances where delivery occurs outside of New York State.

Question 4:

Assuming the above mentioned "Classifiers" are sold or leased to a laboratory
outside New York State, would that exclude the transaction from New York
State sales tax?

Answer 4:

Where Petitioner leases or sells a "Classifier" to a laboratory located outside
New York State with delivery also occurring outside New York State the
receipts from such lease or sale will not be subject to New York State or
Local Sales Tax. (See Answer 1, above.)

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Question 5:

Are the component hardware parts to be purchased outside New York State
subject to New York State compensating use tax?

Answer 5:

Petitioner's out-of-state purchases of component hardware parts which are to
become physical component parts of "Classifiers" for sale or lease will be
considered as purchases for resale falling within the exclusion from retail
sales as provided under Section 1101(b)(4)(i) of the Tax Law and will not be
subject to the sales or compensating use tax.

Question 6:

Is Petitioner's software research, development and integration subject to New
York State sales or use tax?

Answer 6:

Section 1115(a)(10) of the Tax Law provides an exemption from sales and
use tax on receipts from retail sales of "[t]angible personal property
purchased for use or consumption directly and predominantly in research and
development in the experimental or laboratory sense. Such research and
development shall not be deemed to include the ordinary testing or inspection
of materials or products for quality control .... "
Section 528.11(b) of the Sales and Use Tax Regulations provides, in part, that
"(1) Research and development in the experimental or laboratory sense,
means research which has as its ultimate goal:
(i) basic research in a scientific or technical field of endeavor;
(ii) advancing the technology in a scientific or technical field of endeavor;
(iii) the development of new products;
(iv) the improvement of existing products; and
(v) the development of new uses for existing products .... "
Accordingly, where Petitioner can substantiate that "software research or
development", which had as an ultimate goal any of the resulting activities
listed under Section 528.11(b)(1) of the Regulations, has occurred, any
tangible personal property purchased by Petitioner for use or consumption
directly or predominantly in such research and development will be exempt
from the tax imposed under Section 1105(a)of the Tax Law.

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Where Petitioner charges a customer for integration of a system and delivery
occurs within New York State, the charge for integration will be subject to
the tax imposed under Section 1105(c)(3) of the Tax Law.
Question 7:

Assuming the integration of the entire system is performed in New York
State and the machine is subsequently shipped to laboratories outside New
York State where substantial recalibration on the system must be performed,
will the answers to Questions 1, 2 or 3 above change?

Answer 7:

No.

Question 8:

Assuming the system is never fully integrated within New York State, would
any labor and/or other activities be subject to New York State sales or
compensating use tax?

Answer 8:

Regardless of whether system integration is performed within or outside New
York State, the transaction will not be subject to New York State or local
sales or compensating use tax provided that the system is delivered to the
customer outside New York State.

Question 9:

Assuming Petitioner provides repair and maintenance services for
"Classifiers" which are either sold or leased, would such services be subject
to New York State sales tax?

Answer 9:

Section 1105(c)(3) of the Tax Law imposes a tax on receipts from the sale of
the services of installing, maintaining, servicing or repairing tangible personal
property. Petitioner's receipts from charges to a customer for repairing and
maintaining a "Classifier", whether sold or leased to the customer, will be
subject to the tax imposed under Section 1105(c)(3) of the Tax Law, unless
the service is performed outside the state or the repaired or maintained
"Classifier" is delivered to a customer outside New York State.

Question 10: Are any component parts of the scanning machines which are used for
commercial purposes in Petitioner's offices in New York State subject to New
York State or Local sales or use tax.
Answer 10:

Where Petitioner's scanning machines are used directly and predominantly
(more than 50% of use) to produce pictures of cells on magnetic media for
transfer to customer's, without any diagnosis being provided by Petitioner,
Petitioner's purchases of component parts for such machinery or equipment
will qualify for the tax exemption provided under Section "1115(a)(12) of the
Tax Law and will not be subject to New York State or local sales tax.

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Question 11: Are any component parts of scanning machines located in New York State
but used for research and development purposes subject to New York State
or local sales or use tax?
Answer 11:

Where Petitioner's scanning machine is used directly and predominantly in
research and development as defined under Section 528.11(b) of the
Regulations, Petitioner's purchases of component parts for such specific
scanning machines will be exempt from New York State and local sales and
use tax.

Question 12: Are receipts from the service provided by Petitioner, the scanning of PAP
smears, subject to New York State sales or use tax?
Answer 12:

Since Petitioner transfers the magnetic media to customers without providing
a diagnosis, Petitioner is considered to be selling the customers tangible
personal property. Accordingly, the receipts from such sales will be subject
to New York State and local sales tax. Petitioner will be liable for collecting
sales tax on each transaction at the time of the sale. However, where delivery
of the magnetic media to a customer occurs outside New York State such
transaction will not be subject to New York State or local sales tax.

Question 13: Are component parts of the review stations, which are owned by Petitioner
but located at the customer's site, subject to New York State sales or use tax?
Answer 13:

Since customers are allowed use of the review stations, without any charge
for such use, Petitioner is not considered to be reselling the review stations.
Also, since customers use the review stations for the purpose of viewing the
pictures of cells transferred on the magnetic media, the review stations are not
considered to be part of Petitioner's production process. Accordingly,
Petitioner's purchases of the various components which make up the review
station will be subject to New York State and local sales tax at the time such
purchases occur. If Petitioner purchases any of the various components
without paying sales tax at the time of such purchase, Petitioner will be liable
for the compensating use tax based on the purchase price of such items.
Petitioner will be required to report and submit the use tax due on the
applicable sales and use tax return for the filing period in which the purchases
occur.

Question 14: Are the magnetic tapes which are used for transferring the information to
customers subject to New York State sales or use tax?
Answer 14:

Since Petitioner does not provide a diagnosis and is considered to be selling
tangible personal property in the form of the magnetic tape, to the customer,
Petitioner's purchases of the magnetic tape are considered to be purchases

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for resale and will not be subject to state or local sales tax. Petitioner should
give the supplier of the tapes a properly completed form ST-120, Resale
Certificate, as substantiation that the transaction is exempt from tax.
Question 15: Will any of the determinations in Questions 10 through 14 differ if the
customer (the sending laboratory) is located outside New York State or the
United States?
Answer 15:

The determination in Question 13 will differ since the components of the
sending laboratory will be used at a customer's location outside New York
State. Petitioner will not be subject to New York State sales or use tax on the
purchase of components for a review station which is located outside New
York State or the United States.

Question 16: Petitioner intends to use scanning machines for training or demonstration
purposes. Will any of the components of such machines be subject to sales
or use tax?
Answer 16:

All purchases of components which will be used for training or
demonstration proposes will be subject to New York State and local sales or
use tax. Since the components are to be used for training or demonstration
purposes, Petitioner will not be considered to have purchased such items for
use in a production process nor for the purpose of resale.

DATED: June 14, 1993

/s/
PAUL B. COBURN
Deputy Director
Taxpayer Services Division

NOTE: The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.