Tuesday, November 20, 2007

Maryland's Computer Services Malfunction

In its hurry-up special session, the General Assembly has just passed the $1.4 billion tax hike that Governor Martin O’Malley wanted. As I have said previously, more should have done to put in place spending reductions prior to adopting such a large tax increase.

One new tax deserves special mention: The tax bill will make Maryland one of only nine states to tax computer services. The new law applying the sales tax to computer services is expected to raise over $200 million per year in revenue.

In the end, after landscaping, massage therapy, tanning salons, arcades, and all the rest were dropped from the tax bill, computer services are the only new services targeted for the new, higher 6% sales tax. Why? It is as simple as Willie Sutton’s reply when asked why he robbed banks: “Because that is where the money is!” According to a Washington Post article, Sheila Dixon, the Montgomery County Democrat who heads the House Ways and Means Committee, explained, “We feel a little trapped because of the amount of money involved.”

But where the money is now and where it may be in the future if the information economy is stunted and the tax base erodes are two different things. The difference between short term revenue fixes and sustainable, longer term prosperity.

As I said last week here:

“[A]ssuming simply for the sake of argument that the application of the sales tax is going to be expanded, targeting computer services doesn't make sense. Computer services play the --not "a"-- but "the" key role in the information economy. The types of services that would be impacted by the new tax are integral to the installation and maintenance of high-speed broadband networks upon which so much of today's information economy depends. By virtue of their importance in enabling the efficient and less costly delivery of other goods and services, computing services have a positive multiplier effect on the economy at large.

Computer services constitute a segment of its economic base that Maryland should want to promote, not discourage, especially if the state wishes to compete with its neighbors such as Virginia, which have become world-class information economy hubs. The new tax will cause computer services firms, especially small ones that wish to grow, to consider moving to Northern Virginia or Pennsylvania, which don't tax such services.”

The Tax Foundation has just released its latest State Business Tax Climate Index. At No. 24, Maryland certainly doesn’t distinguish itself. Perhaps, more significantly and more relevant in assessing longer term economic impact, Virginia ranks 14th and Delaware 9th. Pennsylvania ranks 27th. The massive new tax hike is not likely to improve Maryland’s ranking.

And the special targeting of computer services in the tax package almost certainly will adversely impact what ought to be a concerted drive by Maryland to promote itself as a friendly venue for the high-tech information economy. Virginia certainly does so with vigor.

Had the General Assembly not been under the gun of the hurry-up special session, there is a good chance, upon more deliberate reflection, that it would have avoided taxing computer services. Indeed, in the legislation, it recognized the need to revisit this decision in five years. It should make a point of reconsidering much sooner than that.