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Internet, business groups challenge Maryland’s digital ad tax

National groups representing the likes of Facebook and Google are challenging Maryland’s first-in-the-nation tax on digital advertising in federal court, hoping to block its implementation and ward off attempts in other states to pass similar laws.

They’re seeking an injunction to prevent the new tax, which they call a “punitive assault” on digital advertising, from being collected. They allege the tax will violate federal laws that bar discriminatory taxes on e-commerce and ban states from regulating interstate commerce and actions outside their borders.

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“The unlawfulness of Maryland’s statute here is crystal clear,” said Michael Kimberly, a Washington, D.C.-based attorney representing the Internet Association, NetChoice and the Computer & Communications Industry Association — which represent internet and telecommunications companies — as well as the U.S. Chamber of Commerce.

The groups filed their complaint Thursday in U.S. District Court in Baltimore.

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Legislators designed the law to tax the money Big Tech makes from selling internet ads. The tax is expected to bring the state at least $100 million, and potentially up to $250 million, each year. That money would go largely to funding public education.

Companies will pay different rates, depending on how much they profit from digital ads in Maryland, as well as what their total revenues are. Bigger companies will pay a higher rate.

The General Assembly passed the bill in 2020, but Republican Gov. Larry Hogan vetoed it, voicing concerns against taxing businesses, especially during a recession induced by restrictions to control the spread of the coronavirus.

“With our state in the midst of a pandemic and economic crash, and just beginning on our road to recovery, it would be unconscionable to raise taxes and fees now,” Hogan wrote in a letter last May to legislative leaders, explaining his veto. “To do so would further add to the very heavy burden that our citizens are already facing.”

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A group called Marylanders for Tax Fairness formed to oppose the tax, with participating businesses ranging from local pizza shops to the Internet Association, whose membership is a who’s who of online companies ranging from Amazon to Zillow. The Maryland-Delaware-D.C. Press Association, of which The Baltimore Sun is a member, is part of the coalition.

Marylanders for Tax Fairness paid for television and online ads and sent thousands of emails to lawmakers, urging them not to override Hogan’s veto. But the Democratic-led General Assembly overturned the veto last week, largely along party lines.

The tax will become law 30 days after Friday’s veto override, and it will be up to Democratic Comptroller Peter Franchot to collect it. The court challenge was filed against him in his role as comptroller. Franchot’s office declined to comment on pending litigation.

Democratic Attorney General Brian Frosh will defend the law in court, and his office also declined to comment. Last year, Frosh advised Hogan that while there would be a risk that a court could find the digital ad tax to be unconstitutional, it is “not clearly unconstitutional.”

Thursday’s court filing covers many of the points Frosh considered in his memo, including limitations on what types of business activity the state is allowed to regulate and tax.

The trade groups argue the General Assembly overstepped its bounds in an effort to punish large, profitable companies and draw tax money from them.

“The background leading to the act’s passage is undeniable: Maryland lawmakers disapprove of large digital advertising companies and intend to penalize them,” the court filing reads.

The trade groups claim that the tax will drive up the costs of placing ads on websites and apps, which will lead to less advertising and lower-quality content on websites.

The court filing states that the tax is unlawful on multiple fronts, violating the federal Internet Tax Freedom Act (which bans taxes that discriminate against e-commerce) as well as the Commerce Clause and the Due Process Clause of the U.S. Constitution (which bar states from regulating interstate commerce and actions outside their borders).

The plaintiffs asked a judge to declare the tax unlawful and issue an injunction barring the state from collecting it.

Kimberly, the lawyer for the trade groups, said that several other states are considering similar taxes. They hope to not only stop Maryland’s tax, but prevent more from being enacted.

“These sorts of assessments are being considered in states across the country and their unlawfulness isn’t ambiguous,” Kimberly said. “It’s quite clear they violate federal law.”

In a legislative maneuver as the 2020 General Assembly session rushed to an early end due to the pandemic, lawmakers combined the digital ad tax and increased taxes on tobacco and nicotine products into one bill. Thursday’s court filing does not challenge the tobacco and nicotine taxes.

Senate President Bill Ferguson, the sponsor and champion of the digital ad tax, defended it. In a statement Thursday, he said he was disappointed but not surprised by the legal challenge.

“For two decades, these companies have grown exponentially by availing themselves of the privileges of states, benefited from the aggressive uncompensated collection of personal and private information about Maryland’s residents, and been free riders to Maryland’s investments in our civic infrastructure,” said Ferguson, a Baltimore Democrat.

In response to complaints from small businesses and media organization, Ferguson is sponsoring follow-up legislation. The new bill would prohibit internet companies from passing along the cost of the tax to ad buyers. It also would exempt news media companies and broadcast TV and radio companies from paying the tax.

Kimberly said any suggestion that internet companies don’t want to pay taxes is inaccurate. He couldn’t say, however, how much the major internet companies pay in state or local taxes.

“A lot of the companies that are being hit with this assessment do pay tax,” he said. “Where this notion is coming from that they pay no tax, I’m not sure.”

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