Maryland’s digital ad tax is a bad idea, Gov. Hogan should veto it

Amid a frantic end to a session cut short by the COVID-19 pandemic, the Maryland legislature passed the nation’s first tax specifically targeting digital advertising.

Should the legislation (H.B. 732) become law, it will more likely generate legal bills than fund the expensive educational reforms proposed by the so-called Kirwan Commission. That probably shouldn’t be surprising. Indeed, the novel tax is based on a proposal apparently chiefly designed not to generate revenue, but rather to force websites to abandon popular ad-supported business models.

Gov. Larry Hogan should veto this misguided legislation.

The legislation would impose a tax — ranging from 2.5% to10% — on annual gross revenues derived from “digital advertising services” provided via a “digital interface” within Maryland. It would not apply to traditional forms of advertising such as print or TV. Because companies with under $100 million in annual global gross revenues would be exempt, popular digital platforms like Google, Facebook, Spotify, Twitter, Expedia and Etsy are in the crosshairs.

There are a number of problems with the bill. For example, it defines both “digital advertising services” and “digital interface” using vague language that would confound compliance. It establishes an apportionment fraction with national revenues in the denominator and relies upon global revenues to identify companies to which it applies — inappropriate choices for a state-specific tax. On the key issue relating to the identification of the state from which revenues are derived, an often tricky task when digital devices and computer servers — and their associated internet addresses — are easily moved from place to place and often are, the law punts to the state comptroller to develop implementing regulations.

Legislative analysts estimate that the legislation could generate up to $250 million in annual revenues. That assumes, however, that it survives judicial challenge, which is doubtful. Even the Maryland Attorney General’s office has acknowledged that there is “some real risk” that it could be overturned.

The federal Permanent Internet Tax Freedom Act prohibits discriminatory taxes on electronic commerce, but the proposed state legislation applies only to online advertising. In addition, the Supreme Court repeatedly has struck down industry-specific taxes on First Amendment grounds. Similarly, the Maryland Court of Appeals in1958 found a tax on TV, newspaper and radio outlets to be unconstitutional. Given the tax’s targeting of companies with revenues over $100 million — a significant portion of which likely is derived outside of Maryland — the legislation also may violate the U.S. Constitution’s Commerce Clause which prohibits a state from imposing burdens on interstate commerce.

Even if it were to withstand judicial scrutiny, the legislation is a bad idea that would harm both consumers and businesses. Digital advertising is a significant contributor to the economy, generating $130 billion in annual revenues. H.B. 732 imposes a second levy, in addition to the sales tax, on goods and services marketed via digital advertising, which would increase prices and drive down both demand and sales tax revenues.

The legislation also would encourage companies to redirect advertising expenditures to other states. This would reduce total spending on digital advertising in Maryland, harming local businesses, in particular those that depend on advertising revenues.

Senate President Bill Ferguson has stated that the bill builds upon a New York Times opinion piece by economist Paul Romer advocating a tax specifically on targeted digital advertising, not because of the revenue it might generate, but rather because the tax might actually suppress targeted advertising generally. Indeed, when Mr. Romer testified before the Senate’s Budget and Taxation Committee, he stated that he wants targeted advertising to stop and would be happy if the tax resulted in no revenue.

This truly is misguided. Targeted advertising is a crucial element to the Internet’s usefulness and vitality. Consumers willingly provide personal information (browser history, etc.) and, in return, receive “free” content and services. Exposure to targeted ads — which, importantly, provide information on specific products that, by definition, they are likely to find compelling — is the non-monetary price they agree to pay. This voluntary exchange benefits consumers, especially low-income individuals that cannot readily afford non-ad-based subscription services.

In sum, H.B. 732 would require the state to expend substantial sums on legal fees and likely never go into effect. If it did, it would lead to higher prices, shift advertising spending to other states, harm both consumers and businesses and undermine popular ad-supported business models.

There are lots of good reasons why H.B. 732 should not become law. Once again, Governor Hogan should veto this highly flawed legislation.