SB 122 Is Not Just a Sales Tax Story: What California’s New Law Means for Income Tax Nexus
by
Our earlier piece on SB 122 covered the sales tax side of California’s new SaaS tax: starting January 1, 2027, the law requires many software sellers to register, collect, and remit California sales tax once they cross $500,000 in California sales. That threshold does not directly apply to California income tax nexus, which runs on a separate, less precise test. For remote sellers with no physical presence in the state, that distinction matters.
Two Different Nexus Tests: Sales Tax vs. California Income Tax Nexus
Sales tax nexus and California income tax nexus are governed by different statutes, tested differently, and enforced by different agencies.
Sales tax nexus is a bright-line rule: $500,000 in California sales in the current or preceding calendar year. Once crossed, SB 122 requires registration with the CDTFA to collect and remit tax on taxable digital products.
California income tax nexus works differently. Under California’s “doing business” standard (Revenue and Taxation Code § 23101(b)), an entity is doing business in California if its California sales exceed the lesser of $757,070 (the 2025 figure, adjusted annually for inflation) or 25% of its total sales, with separate, smaller thresholds for property and payroll. That factor-presence test is not a safe harbor floor, however. California income tax nexus is determined by a broad, facts-and-circumstances “doing business” standard under Revenue and Taxation Code § 23101(a), and the Office of Tax Appeals has found nexus to exist for taxpayers who didn’t meet the factor-presence numbers at all. While a business should always monitor its connections with jurisdictions it derives business from or operates in, it should take a closer look at its California income tax nexus as it approaches and passes the sales tax threshold.
Does Sales Tax Registration Create California Minimum Tax Exposure?
California’s $800 minimum tax attaches to entities that are incorporated in California, registered with the Secretary of State, or otherwise doing business in the state. In practice, a remote seller that has crossed the $500,000 sales tax threshold, but not the California income tax nexus threshold, may not create an income tax filing obligation. Thus, the taxpayer would not be subject to the $800 minimum or net-income-based tax.
However, once California sales exceed $757,070, the seller is doing business under the bright-line factor-presence test, and the analysis shifts: it files its regular income or franchise tax return, computes tax on its apportioned income, and pays the greater of that computed tax or $800. The analysis is entity-specific as well: an LLC classified as a partnership also owes California’s gross-receipts-based LLC fee, on top of the $800 and any apportioned tax owed.[1]
How California Sources SaaS Revenue for Income Tax
For income tax purposes, California sources sales of services and intangibles, including SaaS, using a market-based approach: a sale is sourced to California to the extent the customer received the benefit there. This is a facts-and-circumstances test, distinct from the mechanical, billing-address-based rule SB 122 uses for sales tax. A seller cannot assume that its sales tax sourcing determination says anything about how the same sale is sourced for California income tax nexus purposes.
Why Public Law 86-272 Doesn’t Protect SaaS Sellers from California Income Tax
SB 122 defines SaaS as tangible personal property, but only for sales and use tax purposes. The bill does not extend that definition to the Personal Income Tax Law or the Corporation Tax Law, so it has no bearing on how SaaS is characterized for income tax.
That distinction matters because of Public Law 86-272, a federal law shielding certain out-of-state businesses from state income tax if their only in-state activity is soliciting orders for tangible personal property. Remote sellers of physical goods often rely on it to avoid the net-income measure tax. SaaS sellers cannot, because for income tax purposes SaaS remains what it always was: a service or license, not tangible personal property.
What SaaS Sellers Should Do Before 2027
If your business sells SaaS into California, do not treat $500,000 and $757,070 as bright lines that resolve your California income tax nexus exposure the same way. Crossing $500,000 triggers sales tax registration with the CDTFA, and once you have crossed the factor-presence nexus standard of $757,070, you will definitively be required to file an income or franchise tax return and pay income tax and/or a minimum tax. Falling below $757,070, however, does not guarantee you’re free of California income tax nexus; the broader “doing business” standard can still create a filing obligation on a facts-and-circumstances basis. See our SB 122 compliance checklist here.
KBF Advisory, LLC monitors changes like these in state tax law so our clients are never caught off guard. If your business sells SaaS into California and you have questions about SB 122’s income tax implications or your California income tax nexus exposure, our state and local tax team is here to help. Please reach out to Nicholas McMahon at nmcmahon@kbfadvisory.com, Andrew Cole at acole@kbfadvisory.com, George Rendziperis at grendziperis@kbfadvisory.com, or Austen Jones at ajones@kbfadvisory.com to discuss how SB 122 may impact your business before the 2027 effective date.
[1]California Senate Bill 122, a 2026-27 fiscal year budget trailer bill passed by the legislature on June 18, 2026, provides that any LLC, LP, or LLP that organizes or registers with the California Secretary of State during tax years 2027, 2028, or 2029 pays $400 (not $800) for its first taxable year. This law partially restores tax relief from the now-expired Assembly Bill 85 (part of the 2020 Budget Act).