Erik: Tony, so thank you so much for joining us today.
Tony: Oh, thank you for having me. I'm excited to speak with you today on a great topic.
Erik: Yeah. Really, this is a topic I never thought I would actually do an episode of the podcast on, so tax as it applies to connectivity. But when your team reached out to me, I was thinking, you know what, this is probably something that nobody ever thinks about and end of the day could actually really impact a business case. Tony, before we really dive into the topic, can we take a couple minutes to just share your background, how you got into this area and then what is Avalara doing to help companies figure out the tax implications for connected systems?
Tony: So my name is Tony Susak, and I am the general manager at Avalara for communications. And Avalara is a tax compliance full solution company. But my background has been in transactional tax and regulatory compliance for telephone companies. I started with AT&T in December of 83. And for people not familiar, AT&T was a monopoly in the United States at that time. There was one phone company that you could go to, and that was AT&T.
And then the government broke up AT&T in 01/01 of 84. And so I have transactional tax and regulatory compliance for over 30 years. And during my career, with the breakup of the telephone company, I have worked for a vast majority of telecom companies, Cingular Wireless, Virgin Mobile, Cricket Wireless. I ran the General Motors OnStar Tax Division for seven years in Detroit.
My last job prior to coming to Avalara about a year and a half ago was I was the head transactional tax leader for AT&T. So I have been in this space a very long time. And I got to tell you, in all my years here, I've never seen the technology revolution with this new 5G technology that's going to happen over the next 5-10 years. And what I'm seeing is nontraditional telecommunications players coming into this space. And that's sort of my goal today is to educate people who are not familiar really with telecommunications, just the complexities and some of the hurdles that companies may encounter as they enter into this Internet of Things or making dumb objects smart. So that's my goal today.
Erik: So Tony, I don't want to cut off our audience at the get-go here. But can you define for us who would be a company that would be liable for taxes in this space? Is it primarily the connectivity providers? I was just talking to a startup today that does mesh networking, they build these little devices to hop a signal into remote locations for mines or something, this kind of company who's basically being more than an endpoint delivery system for exit signal, would they be liable here? What is the scope of companies that this would be highly relevant to?
Tony: My standard question, it's almost you have to observe it on a case by case basis. And it really depends on how they put their product out to market. How do they negotiate their contractual agreements between themselves and say, the true telecom providers? So, it's a very gray area. Tax guidance is often dated in technology obsolete.
So I don't have a good answer for you there, other than whenever a company enters this space, and they start providing some type of conductivity or a voice component of their service, that's when my radar goes up. Their radar should go up and say, oh, my God, rather than just have a sales tax which people in the United States are very familiar with. You walk into a store, you buy a tangible personal piece of property, and you get sales tax, and it's around 6%-7%.
In my world, one transaction could have eight different transactional taxes associated with that one transaction. And it could go from 6% to over 20%. So it's very critical that you do the tax planning up front because the beauty of it is most of it is just a collect and remit. So you collect it from the customers, and you were remit it to the taxing authorities. But if you missed the boat, and say, two years down the line you get audited, you don't have the capability of going back and charging your customers: you could be out of pocket quite a bit of money.
Erik: So you mentioned that there's layers of taxes, are those then related to geographies? Is that there's federal, there’s state, or what would be the different?
Tony: Yeah. So that's very interesting. And it's what's kept me employed for over 30 years. So telecommunications is regulated and taxed differently than really any other industry in the United States. It's the most heavily taxed service in the United States. And as I mentioned before, technology is changing at a rapid pace. And these legislative bodies and statutes and laws do not keep up with technology; it takes years for them to pass laws. But we're coming up with new product offerings every day. And so these telecommunication taxes are the most complex in America.
And so what I was referring to when one transaction could have in the telecom world, six or seven transactional taxes associated with it, it all depends on which jurisdiction down to the city level. So all states have all their different laws, then you have counties, then you have cities. So it really depends on where your product is being consumed, where you're selling into. But the rates can go, in my best guess, is anywhere probably between 12% to close to 25% of a sale of a product offering. And it's so critical to get it right or at least potentially be prepared if you do break the bubble of what is considered telecommunications.
So at a state and local transaction [inaudible 13:05], the questions I ask is what is the practice service? And who's selling it? What types of telecommunications services tax may be applicable? What tax jurisdictions have the right to impose a tax? And really what services are performed? The difficult part is CFOs and non-telecom people want a specific answer. And my response is it depends. It's not black and white. It's a very gray area.
Erik: If we were looking at a predictive maintenance solution, this is a use case that's fairly either widely adopted, or at least widely piloted, we're looking at a predictive maintenance solution in transportation equipment, so kind of remote equipment, now you're putting connectivity onto this equipment and some sort of compute power and sensors and so forth to collect the data, so you're sending signals both ways, and you have maybe a system integrator or somebody who's selling the integrated solution to either the end user or the equipment OEM, you have the platform that's managing the data, and then you have some connectivity provider behind. Would this be primarily a question for the connectivity provider? Or how would this discussion impact the other players in this chain?
Tony: So it depends on who's charging who? So who are you collecting money from for the provision of this service? Is it just strictly an Information Service? And if it's strictly an information service, and you're just gathering data from endpoints and gathering it and putting it into report format, or putting it on the web to analyze, most likely, it's not telecommunication at this point in time. But those laws could change.
Erik: So you'd mentioned voice earlier, what are some of the things that would then trigger this becoming fairly clearly, telecommunication services?
Tony: Definitely bundling a new service with some type of voice application. A good example is OnStar. OnStar, really, you go out there and you get into a crash. It monitors your vehicle. It tells you if your tires are low. It monitors and gives you reports on your vehicle. But when you reach into the vehicle by an OnStar operator, and you allow that voice to voice connectivity between the driver and the operator, now you're bundling an information service with a potential voice component, anytime there's a voice component, it's very highly likely that it's going to be deemed telecommunications. So a lot of it is how you bundle your service offerings or your Internet of Things. It is definitely, again, the radar goes up and say, oh, my God, it might have a problem here.
Erik: So for this example, for OnStar, do you know how this impacts them? Are they then paying telecommunications tax on these services?
Tony: They do on certain services. Yes, they do.
Erik: It's kind of a philosophical question to an extent of what entails communication, right, because we think of communication as two people talking. And now communication is often machine to machine. And then to what extent will that communication be captured here?
Tony: Well, even to throw a wrench onto that, so I get asked this quite often when I'm going to conferences or given presentations. And again, it's non-lay people who are not familiar with the telecom industry. And I get this question asked quite often is what is the definition of telecommunication for transactional tax and regulatory purposes? There's over 100 different definitions. And what do I mean by that? I mean, you got 50 Department of Revenues. They have their own definition of what telecommunication is.
Then you have 50 public utility commissions. They have their own definition. And then you have the FCC at the federal level that has a different definition of what telecommunications is. So, there is no definitive answer. It depends on the jurisdiction you're doing business in. And everything else is dependent upon that. So it's a very gray area.
Innovation is forcing and driving change. I mean, development in this nanotechnology, artificial intelligence, this computing power, the cost are falling of providing this computer power and data storage. And so it's opening up this really cool world of innovation of product offerings that, again, I'm telling you it's so exciting to watch. And I am seeing and my company seeing more and more non-traditional companies potentially offering products and services that could be deemed telecommunication. All I want to do is raise awareness that if you think that that's happening, it's better to get out in front of it early, because it can mean the difference between a successful product launch and an unsuccessful product launch because of the margins.
Erik: So yeah, 10-20% is significant for the margins.
Tony: Exactly. Especially when it's normally, I would say 98% of them are just a collect, and remit. And that's what my company does. But if you miss it, and two years down the road, you could potentially have this huge, outstanding audit bill.
Erik: So you have certainly the traditional Verizon and AT&Ts, companies like Sigfox, how would you view them today? Would you view them as definitely in this domain, or are they sometimes in, sometimes out? How do they fit in here?
Tony: I'm not 100% familiar with Sigfox. But the little I do know, I would say sometimes, in sometimes out.
Erik: You'd mentioned earlier 5G. I mean, obviously, what impact of 5G is going to have hypothetically, it seems likely that we're going to then have a lot of additional use cases because of the additional functionality and the different cost structure. What in particular makes 5G interesting in this context?
Tony: I view this as a technology revolution. I don't think people truly understand and they say, oh, it's quicker and faster. But the cool thing is this low latency that we're truly going to have now, remote robotic surgery, potentially safer than surgery by a human. We're going to have the transportation of services and delivery of goods via drone, and autonomous vehicles.
Just a couple days ago, General Motors announced that they are closing plants because of they want to be ready for the future. And they're going to concentrate on autonomous vehicles. So they understand in order to stay up with technology changes that's going to happen in 2020-2025, they are taking proactive steps to do this. And you're going to see things in the gaming industry. You got industries, including, utilities, mining, logistics, manufacturing, all these things are going to be affected by the capabilities of 5G now. And I just want to help companies stay compliant. I mean, that's really my goal.
Erik: One thing that strikes me is, maybe I'm getting a bit hold up on this voice aspect, but it strikes me that a lot of communication is going to be shifting from managing things on mobile apps towards managing them on through voice commands. Especially for things like a surgery or a drone how do you communicate with the drone that's been delivered? It might be the case where you say, package collected return or go away. So we might start using voice for these types of things just to give commands to devices that we're interacting with, because it's more convenient than an app. How would you view that? So you're basically using your voice to send a command that the same way, you might punch keys into a keyboard, where are we today?
Tony: Erik, that's a very good example that I think is going to happen. And I would tell you, just based on my years of experience in this industry, normally the voice side in the telecommunications industry is dwindling. voice revenue. If you have young kids, you know that, because they're texting, nobody's talking anymore. It's changing. So what does that mean? That means that these taxing authorities in the traditional 10 years ago was all voice revenue rally, that's dwindling. These taxing authorities are looking for new sources of revenue.
And as we change as a society from sort of voice to more texting and information services, these taxing authorities are going to change their laws because somehow, only my opinion, the declining revenues, they're going to have to substitute those revenues with other type of communication services. And, again, based on my years of experience in this industry, if you have a product offering, and it has a voice component, it's really easy for these auditors to say, oh, strictly telecommunication because you have a voice component. It just gives them more ammunition to make it telecommunications versus an information service versus something else.
Again, you really have to look at each product offering separately. There's not a definitive answer, as I mentioned earlier because of all these different definitions of what telecommunications is. But I just want to educate people that when you have a connection, when you're gathering data, and these dumb devices become smart, and there is a form of communication between two objects, especially if you then bundle it with a voice component, you're really opening yourself up to have that product or service offering deemed telecommunications. And once you open up that Pandora's box, you're going to have to start complying with all the transactional tax and regulatory compliance of a telecommunications company.
Erik: Basically, when I pay my phone bill, I have a number of minutes and then I have a data service. Are those somehow they're bundled together for me? Is it the consumer, are they taxed at different levels?
Tony: They absolutely are. It depends how your service provider does and it gets into the bundling aspect. It depends on how they present the invoice to you. But at a very high basic level, your actual voice service of your normal monthly cellular bill will have all the transactional telecom taxes applicable to it: you'll have sales tax and E911, a grocer seat tax, a utility user tax, a state USF, a federal USF, a state TRS, a federal TRS. I mean, that component will definitely be subject to all those.
And then you might have a texting plan. And that, it depending on the jurisdiction is not as heavily taxed; you might have some gross receipt taxes, but normally just sales taxes. So it really depends, again, on how your service provider, what plans you subscribe to. And it depends on how they bundled up the product really. So bundling is a whole different issue. At a very high level, if you bundle a non-traditional telecom product with a telecommunications service for one price, that's called tainting the bundle and then something that wouldn't have been subject to all those taxes is now subject to all the taxes. So that's a whole different discussion, but it's called tainting the bundle.
And that's why you have to work with your marketing department. What are you putting on your website? How are you presenting this to your customers because it can have a material effect?
Erik: I suppose for the regulator's, it's also pretty tricky to figure out what a particular product does today. So if you don't make it so obvious, I imagine it's also a little bit of there's so many new products out there, and they're probably trying to keep up right now.
Tony: Absolutely. Well said, they are struggling. But again, in just my opinion only, as this voice revenue keeps declining, they're going to have to replace that with something else. And I see it eventually, the Internet of Things, all the things that we were talking about earlier, the robotic surgery, the autonomous vehicles, the logistics, the manufacturing, streamlining supply flow chain, I mean somehow, they're going to have to replace the traditional telecommunications with these new, cool technology product offerings.
Erik: There's one case that's already pretty well adopted. So if we look at Siri and Amazon Echo, I mean, those are already heavily adopted. There's certainly a voice component, most of the voice is just sending a command. But you could also use these technologies that a bit like Skype to communicate with somebody else. Do you know how these are currently impacted by communications taxes?
Tony: Erik, I watch that daily. Right now, I think that because it's over the internet more VoIP type related, I haven't seen a big movement from a telecommunication tax perspective. But I watch that daily. Because it's almost like the domino effect. If one state takes Amazon or Google, to court to say, oh, listen, there is a voice component, you're charging $20 a month for this service, because of that, we're going to say it's telecom. And what happens is then you're going to have a domino effect.
But right now for like Amazon Echo, I have one in my house, I don't get charged for it. So there is no transfer consideration. There might not be a taxable event. But I watch this daily, because I think eventually something will happen. And like I said, once, if one state wins, you're going to have a domino effect for the other 49 states.
Erik: So it'd be more likely if they were charging you a particular monthly fee?
Tony: Yes, sir. So there has to be what I call, a transfer consideration, for that service, and then it's a taxable event. That's right.
Erik: So if somebody is preparing to launch a product, let's say just for simplicity, it's a product where voices is somehow critical to the functionality. What would you recommend that they do just in terms of checking their bases and making sure that they know what the tax implications are?
Tony:, I would highly recommend to probably bring in one of the larger big four accounting firms to take a look, work with your marketing department, work with like [inaudible 33:13] actually do from beginning to end, how are you charging your customers for service? What is your contractual agreement between AT&T, Verizon, or T-Mobile that's providing the actual service itself?
And after you get a telecom expert to review your product, they will give you a comfort level that you're okay, or hey, listen, you might have to now register with each Public Utility Commission, you might have to register with the FCC, we think this is going to be telecommunications. And oh, by the way, you better have the tax engine that could do all these transactional taxes because those rates and tax laws change monthly. There's over 300 different types of telecom taxes, fees and surcharges.
And just for an example, on average, if you're a telecom company, and you're doing business in all 50 states in the United States, there's over 48,000 different tax filings at a state county city district level for each business entity that is providing service. So it's a huge issue that I just want to raise awareness of the potential cost of compliance for providing a telecom service.
Erik: If you are a smaller company that's trying to innovate in this space, and you're not looking at the budget right now to bring in a big for, what would you suggest? Is it just find a smaller advisor that's a bit more cost effective? Or is it possible to look into this yourself?
Tony: I would then recommend if you cost prohibitive, I mean, you could each out to Avalara, or a smaller boutique accounting firm that's more affordable. Just to give you some guidance, absolutely, you could do that. Could you do it? Non-telecom people trying to determine if a product is telecommunications or not, I would strongly advise not to go that route. It's just too complicated. It's too gray of an area. That would be my recommendation.
Erik: And just to understand, Avalara, where you fit in, do you basically have some sort of engine where you have all these different taxes built into a system, and as they change, as you said, on a regular basis, you're able to automatically calculate what a particular company would pay based on where they're selling and how and who?
Tony: Absolutely. So that's our strong point. That's what we do. So we monitor all the taxing jurisdictions within the United States. And now we're going international, we monitor these tax laws, rates every month, and they change every month, and we update our database. And so we tie into customers billing engine, and we are your tax engine. And we take care of doing that throughout the whole United States.
I believe, there 70,000 different taxing jurisdictions that we monitor on a monthly basis. We take that off your plate. So not only do we calculate it, put it on the bill for you to collect from your end users or your customers, we then take the taxes that you collect, we actually put it on all these different tax returns, which are potentially over 40,000 different tax returns and then we also cut the check. So we're sort of a one stop shop for you. That's our expertise. That's what we do.
And you want to concentrate on running your business. You want to concentrate on selling. This is a necessary evil, unfortunately, that doing business in the United States that you have to comply with. And we try to take that burden off of companies, let them innovate, let them increase their sales and take that off their plate.
Erik: Tony, I got to tell you, this is not one of the more exciting areas of the Industrial Internet of Things. But at 10-20% of potential solution cost, it could certainly be one of the more important cost buckets to be looking at when you're putting together your solution.
Tony: It's exciting to me only because I just see the future. If I would just give advice, it's like analyzing the tax and regulatory ramifications of the Internet of Things, and developing strategies to mitigate the potential unintentional consequences is something that I just want to raise awareness to people. Because the long term risk of neglecting this important step can be disruptive, and economically catastrophic. It's really a means the difference between a successful product launch and a non-successful product launch because you are really be eating into your margins. If you don't collect it appropriately, you get audited down the line. And I don't want to scare people. I just want to raise awareness to make people successful. That's all.
Erik: Well, now I have one more thing to be looking out for in the morning news to see if there's any lawsuits going through for regulators or any of these other services.
Tony: That's so funny you say that. The first thing I do every morning, I look for private letter rulings, I look for things in the Wall Street Journal. It's exactly what I do. It's how to try to stay on top of it.
Erik: Well, Tony, thanks for walking us through this today. As I said, this is not a topic I expected to cover. But when I heard your colleagues reach out to me, I thought, well, this is something that people need to be aware of, whether they like it or not. Tony, anything else that you wanted to share with us?
Tony: No, I just thank you for the opportunity. I just want to, again, raise awareness. Please look at your product offerings. I just want you to be proactive, people to be proactive, and just know the consequences of if you enter in the telecom space, that it's much, much more complex than just building a widget and selling a widget. That's it. And thank you for the opportunity.
Erik: Great. Tony, thank you for the time.