Dynamics 365 Licensing: Cloud vs On-premises
Introduction
Microsoft Dynamics 365 can be deployed in the cloud (as a Microsoft-hosted SaaS service) or on-premises (running on your servers).
The licensing for these models differs significantly. CIOs evaluating Dynamics 365 must understand how cloud subscriptions compare to on-premises licenses, how licenses can be ported or combined, and the cost implications of each approach.
This article outlines the key differences in licensing for cloud versus on-premises deployments, including portability (dual-use rights), hybrid scenarios, and cost considerations.
Licensing Model Differences
In the cloud model, Dynamics 365 is a subscription service (per user per month, or capacity unit for certain services). You “rent” the software; Microsoft hosts and manages the infrastructure.
Licensing is straightforward: you pay for user subscriptions (and any add-on capacity, such as extra storage), and as long as the subscription is active, users can access the service.
There’s no separate charge for application servers or databases – those are included in the subscription fee.
On-premises Dynamics 365 (for example, Dynamics CRM or Finance & Operations deployed in your data center) uses a traditional Server + CAL (Client Access License) model:
- You license the server software (Dynamics 365 Server) with a one-time fee per server instance.
- You purchase CALs for each user or device accessing the system. CALs can be User CALs (per named user) or Device CALs, and often have different levels (e.g., Professional CAL for full functionality, Basic CAL for limited access).
- CALs are typically perpetual licenses. To receive updates/new versions, you maintain an annual support plan (Software Assurance). Without SA, your license allows you to run the version you bought indefinitely, but not to automatically upgrade.
For example, an on-premises Dynamics CRM deployment might involve purchasing a CRM Server license (several thousand dollars) plus a Professional User CAL for each user (approximately $1,000 per user, one-time).
The organization must also provide the infrastructure (Windows/SQL Server, hardware, networking) and IT support for that system.
Summary: Cloud licensing is an OPEX (ongoing expense) model, scaling up or down with usage, and always includes the latest software updates.
On-prem licensing is a CAPEX (upfront ownership of licenses) approach; it may be cheaper over a long horizon if you already have infrastructure and don’t need continuous upgrades, but you take on the responsibility of running and updating the system.
Read Dynamics 365 Licensing Metrics and Models.
License Portability and Dual Use Rights
Microsoft recognizes that customers may move from on-prem to cloud or use hybrid deployments.
To facilitate this, Microsoft provides dual-use rights in certain cases:
- Dynamics 365 cloud subscriptions include the right to deploy the equivalent on-premises software for licensed users. A cloud user license effectively conveys the equivalent of an on-prem CAL. For example, suppose you have 100 Dynamics 365 Sales Online user subscriptions. In that case, those 100 users can legally access a Dynamics 365 Sales on-premises server (you can obtain the software via your Microsoft account). This allows for testing or hybrid use without double payment. Note that these rights are not perpetual – if the cloud subscription ends, so do the on-prem access rights.
- Conversely, if you own on-premises Dynamics licenses with active Software Assurance (maintenance), Microsoft offers transition benefits to move to the cloud. There are often discounted “from on-prem to cloud” subscription SKUs or credits, so you don’t pay full price twice. Microsoft will help you switch models by recognizing past investments, typically through a time-limited discount on cloud licenses when you transition from on-premises use.
Hybrid Deployments: Dual-use rights enable hybrid scenarios where you can run cloud and on-premises applications simultaneously. Many enterprises use this approach during migrations, such as running an on-premises CRM and Dynamics 365 Online in parallel, with the same users licensed, and gradually shifting usage to the cloud.
From a licensing standpoint, that’s allowed as long as each user consuming both has a valid cloud subscription (or appropriate CAL). True hybrid integration (data sync between on-prem and cloud) requires technical integration efforts. Still, there is no extra license fee beyond having the necessary licenses for each environment.
The portability means you have flexibility: you can start on-premises and later move to the cloud (with financial incentives to transition), or start in the cloud and still deploy an on-premises instance for specific needs (e.g., data residency or custom integrations) using your cloud licenses. Always review Microsoft’s terms for any specific product; however, Dynamics 365 licensing generally attempts to accommodate these shifts.
Cost Considerations (Cloud vs On-Prem)
Cost evaluations of cloud vs. on-premises Dynamics 365 must account for different factors:
- Upfront vs. Ongoing Costs: On-premises solutions require a larger upfront investment in licenses and infrastructure, whereas cloud-based solutions offer a steady subscription. If you have a capital budget and plan to use a system for many years with minimal changes, on-prem might appear cheaper in the long run (after the initial payback period). Cloud might have a higher cumulative cost over 5+ years because you’re continually paying. Each organization should model the total cost over a period (including likely growth in users or needs).
- Infrastructure & Maintenance: On-prem means you need servers, storage, backup systems, and IT admins to manage everything (install updates, monitor uptime, etc.). These are significant costs that are often underestimated. Cloud shifts those responsibilities (and costs) to Microsoft—part of your subscription fee funds Microsoft’s data centers and ops team. If your company doesn’t have a strong IT support capacity or wants to repurpose IT staff for other projects, the value of the cloud increases.
- Feature Availability & Upgrades: Microsoft introduces many new features in the cloud first, and some cloud services (e.g., AI-driven insights, Power Platform integrations) may not even be available on-prem. Additionally, cloud users receive automatic upgrades (typically major updates twice a year) as part of the service, whereas on-premises customers must plan and execute their own upgrades. There’s a cost to staying current on-prem – if you skip versions to save effort, you might miss out on improvements or run software past its prime. Cloud ensures you’re always on the latest version without extra licensing costs. On the other hand, some companies prefer to have control over deciding when to adopt new features on-premises. In pure licensing cost terms, if you wanted to upgrade an on-prem system and let your Software Assurance lapse, you might have to purchase new licenses for the latest version – an expense that cloud subscriptions inherently cover.
- Scalability & Flexibility: Cloud licensing allows you to scale user counts up or down more fluidly. If you need 50 extra users for a project for 3 months, you can add and remove them, paying only for that period. On-prem, buying 50 more perpetual CALs for a short-term need is usually not practical – you’d either over-buy and shelf them later or try to make do with what you have (which could lead to compliance issues if unlicensed users use the system). Similarly, if you reduce usage, cloud subscriptions can be dropped at renewal to cut costs, whereas on-prem licenses you already bought are sunk costs. This elasticity can yield cost savings in environments where user counts fluctuate.
To summarize, cloud tends to shift costs to a predictable ongoing model and can lower ancillary costs (IT overhead, hardware). On-prem may be cost-efficient for stable, long-term scenarios, especially if you’ve already invested in infrastructure and licenses.
Still, you must factor in the intangibles (maintenance burden, risk of outdated software). Microsoft is clearly investing more in the cloud, so the value gap (in functionality and convenience) continues to widen in favor of cloud options for many organizations.
Recommendations for CIOs
- Leverage Dual Use for Transitions: Use the dual-use licensing provisions to your advantage. If you’re migrating to the cloud, keep your on-prem system running in parallel until the cloud proves stable – your cloud licenses cover this interim period. If you need an on-premises backup environment for disaster recovery alongside the cloud, consider discussing dual-use rights with Microsoft.
- Perform a 360° Cost Analysis: When presenting cloud vs. on-premises decisions, include all costs, such as software, hardware, IT labor, downtime risks, electricity, and floor space. Once these are tallied, the cloud’s cost is often justified beyond just the license price. Conversely, if you have a fully depreciated data center and idle IT capacity, your marginal cost for on-prem might be lower – every situation is different.
- Plan for Compliance and Audits: If you remain on-premises in the long term, ensure you have a process to track your CALs and server licenses. Microsoft can audit on-premises licensing, and violations can result in hefty true-up fees. If you’re in the cloud, compliance is enforced by the service (you can’t exceed your user count without Microsoft knowing). However, if you’re hybrid, be careful not to have “rogue” on-prem users not accounted for in your cloud subscription count or vice versa. Keep licensing records synchronized with actual usage.
- Watch Microsoft’s Licensing Signals: Microsoft pricing trends can influence your strategy. For example, Microsoft has periodically raised prices on certain on-prem licenses or increased cloud discounts to encourage moves. If you see announcements of on-prem license cost increases or new cloud bundles that would benefit you, re-evaluate your stance. It may become financially advantageous to switch models sooner rather than later.
- Align with IT Strategy: Ultimately, the licensing model should support your IT strategy, not dictate it. If your company prioritizes cloud-first for agility and innovation, work with Microsoft to secure the best cloud deal and utilize hybrid licensing to ease the transition. If your company is constrained by regulatory requirements to keep data on-premises, focus on optimizing your on-prem licensing (and perhaps using cloud for non-sensitive workloads). Periodically revisit the decision as laws and technologies evolve. What’s true today (such as the need for on-premises solutions for compliance) might change in a year or two, and your licensing approach should adapt accordingly.
Read more about our Microsoft Optimization Services.
