Maryland Legislature Overrides Governor’s Veto to Enact Digital Advertising Tax and Sales Tax on Digital Products

Blog
February 16, 2021

Maryland has become the first state in the country to enact a tax specifically imposed on digital advertising. On February 11, 2021, the Maryland General Assembly overrode Governor Larry Hogan’s veto of House Bill 732, which was initially approved by the legislature last year. The tax, which is imposed on annual gross revenue derived from digital advertising services in the State of at least $1 million, is expected to face legal challenges on multiple grounds.

The new tax, the revenue from which is intended to help fund Maryland’s public schools, is imposed on revenue from advertisement services on a digital interface, including advertisements in the form of banner advertising, search engine advertising, interstitial advertising, and other comparable advertising services. The law defines a digital interface as any type of software, including a website, part of a website, or application, that a user can access. The tax takes aim at the biggest of technology companies that derive revenue from online advertisements, with the tax being imposed on businesses with global annual gross revenues of at least $100 million. Specifically, the rates at which the tax will be imposed are as follows:

  • 5% for global annual gross revenues of $100 million through $1 billion;
  • 5% for global annual gross revenues of $1 billion through $5 billion;
  • 5% for global annual gross revenues of $5 billion through $15 billion; and
  • 10% for global annual gross revenues exceeding $15 billion.

Companies such as Facebook and Google reportedly earn far greater than $15 Billion in global revenues.

The legislation provides little detail on how taxable in-state (as opposed to out-of-state) digital advertising will be determined. All state taxes are required to fairly apportioned, and the legislature has placed the responsibility of creating the apportionment rules on the Comptroller’s Office. However, having the tax be fairly apportioned is not the biggest hurdle the digital advertising tax will have to overcome. Expected legal challenges to the tax include that it is discriminatory against electronic commerce, which is prohibited by the federal Internet Tax Freedom Act. Further, as reflected in the legislature’s fiscal policy note accompanying the legislation, the state expects challenges based on the Commerce Clause and Amendment of the U.S. Constitution. Although the tax is intended to start in 2021, legal challenges could include an injunction to prevent the Comptroller from administering the tax while litigation is pending.

Maryland’s new tax is the first to target revenue solely from digital advertisements. Most states’ sales taxes are not imposed on advertising revenue, regardless of the medium used to display the advertisement (i.e., online, television, print, etc.). The focused nature of Maryland’s tax may very well be its downfall in the legal challenges to come, as the tax is only imposed on digital advertisements. This aspect of the tax could see it run afoul of the Internet Tax Freedom Act’s non-discriminatory tax provisions due to other advertising revenue not being taxable.

Somewhat related to the digital advertising tax, the General Assembly also overrode the Governor’s veto of House Bill 932 (The 21st Century Economy Fairness Act), which will make digital goods subject to Maryland’s sales and use tax. This action by the legislature has been overshadowed by the novel digital advertising tax. However, the expansion of Maryland’s sales tax base to digital goods will result in many products and services that consumers purchase online now being subject to tax.  This includes downloads of music, movies, video games, and books, as well as subscriptions to streaming services. Further, the imposition of the state’s sales tax on digital goods should not face the same legal challenges as the tax on digital advertising, as most of the digital products that will be taxed are already taxed when sold in physical form (e.g., a hard copy of book or a video sold on a disc).

The expansion of the sales tax will be felt directly by consumers in the state. Of course, if the legal challenges are successfully defended, the same could eventually be said of the digital advertising tax. Despite a tax on digital advertising not being imposed directly on consumers, the tax could eventually result in an increase in the prices consumers pay for everyday goods and services. A group that includes some of the country’s top technology companies and the U.S. Chamber of Commerce has moved to file a suit in U.S. Federal District Court to challenge the tax.

If you have questions regarding Maryland’s new tax on digital advertising or other tax developments in the state, please contact Michael L. Colavito, Jr. or your Aronson tax advisor at 202.770.4018.