State Court Strikes Down Maryland's Digital Ad Tax

On Monday, a Maryland judge held the nation's first – and, to date, only – digital ad tax, H.B. 732, to be both unconstitutional and inconsistent with federal legislation. The Free State statute, which became law only after a General Assembly override of Governor Larry Hogan's veto, imposed a sliding-scale levy on certain providers of digital advertising – but not on all, and not on traditional advertisers – that required large digital platforms (such as Google and Facebook) to remit up to 10 percent of annual gross revenues derived from "digital advertising services."

As Free State Foundation President Randolph May and I explained in "Maryland's Proposed Digital Advertising Tax Would Do Harm," a March 2020 blog post, H.B. 732 not only was vulnerable to legal challenges under the Permanent Internet Tax Freedom Act, the First Amendment, and the Commerce Clause, it also imposed higher prices on local businesses that depend on online advertising to reach their customers and, by direct extension, consumers themselves.

"Anne Arundel County Courthouse June 2005" by Wikipedia user Something Original

is licensed under CC BY-SA 3.0.

A group of impacted Comcast subsidiaries and Verizon Media (now Yahoo) sought judicial relief in the form of a Declaratory Judgment in April 2021. Yesterday, Judge Alison L. Asti of the Anne Arundel County Circuit Court, ruling from the bench, granted their Motion for Summary Judgment.

As expected, Judge Asti reportedly found that H.B. 732 impermissibly interferes with interstate commerce, thereby implicating the Commerce Clause; runs afoul of the Permanent Internet Tax Freedom Act's prohibition on discriminatory taxes; and, because it is "not viewpoint neutral," violates the First Amendment.

Comcast and Verizon Media are not the only ones to have challenged Maryland's digital ad tax in court. As I noted in a contemporaneous post to the FSF Blog, a group of trade associations filed a Complaint for Injunctive and Declaratory Relief with the U.S. District Court of Maryland Northern Division on February 18, 2021. Oral arguments on the parties' motions for summary judgment are scheduled to take place at the end of next month.

Coalition of Trade Associations Sue Over Maryland Digital Ad Tax

In a Tuesday post to the Free State Foundation's Blog, I reported that both chambers of the Maryland General Assembly had voted, by substantial margins, to override Governor Larry Hogan's veto of a gross revenues tax on digital advertising services. As anticipated, yesterday a group of trade associations sued in the U.S. District Court for the District of Maryland (Northern Division) seeking declaratory and injunctive relief.

Filed by the Chamber of Commerce of the United States of America, Internet Association, NetChoice, and the Computer & Communications Industry Association, the complaint alleges that H.B. 732 "is a punitive assault on digital, but not print, advertising" and "is illegal in myriad ways."

Specifically, the plaintiffs argue that H.B. 732 (1) "is preempted by the Internet Tax Freedom Act (ITFA), which prohibits States from imposing 'multiple and discriminatory taxes on electronic commerce,'" and (2) "violates the Due Process Clause and Commerce Clause of the United States Constitution by burdening and penalizing purely out-of-state conduct and interfering with foreign affairs."

A copy of the complaint can be found here.

Maryland's Digital Ad Tax to Become Law After Veto Override

Maryland's first-in-the-nation gross revenues tax on digital advertising services will take effect in less than 30 days. Legal challenges likely will follow soon thereafter.

H.B. 732, passed by the General Assembly at the end of the pandemic-shortened 2020 legislative session, was vetoed by Governor Larry Hogan. On Friday, the State Senate voted 29-17 to override that veto. The House of Delegates did the same the day prior, by an 88-48 margin.

H.B. 732 imposes a gross revenues tax on digital advertising services provided by companies that earn more than $100 million globally. Gross annual revenues will be taxed at rates that begin at 2.5 percent (for companies with revenues between $100 million and $1 billion) and increase to 5 percent (revenues between $1 billion and $5 billion), 7.5 percent (revenues between $5 billion and $15 billion), and 10 percent (revenues over $15 billion).

As Free State Foundation President Randolph J. May and I described last spring in a post to the FSF Blog and an op-ed in the Baltimore Sun, this tax will harm both consumers and businesses in Maryland. The higher marketing costs that result inevitably will lead to higher prices for the goods and services advertised, lower consumption, and reduced tax revenues. It also is vulnerable to legal challenges under the Permanent Internet Tax Freedom Act, the Commerce Clause, and the First Amendment.

S.B. 787 and companion bill H.B. 1200, introduced on February 5 and 8, respectively, would modify H.B. 732 by (1) exempting the "digital interfaces" (that is, websites and apps) of television and radio broadcasters and news media entities, and (2) prohibiting those subject to the tax from passing on its costs directly via a separate fee, surcharge, or line item. However, the proposed legislation would not bar providers of digital advertising services from recouping those costs indirectly via higher prices.

Baltimore Sun Op-Ed Urging Veto of MD Digital Ad Tax

Today's edition of the Baltimore Sun features an op-ed that Free State Foundation President Randolph J. May and I wrote regarding the ill-conceived, and first of its kind, tax on digital advertising recently passed by the Maryland General Assembly.

In a blog post on March 13, we addressed the shortcomings of what at the time was pending legislation. An effort to generate additional revenues for education based upon a proposal conceived to discourage targeted advertising, Senate Bill 2 inappropriately singled out one form of commercial speech – digital, but not traditional – advertising, in violation of both specific federal law and the First Amendment.

It targeted large platforms (e.g., those that generate more than $100 million in annual gross revenues) with a tax ranging from 2.5 to 10 percent of annual gross revenues derived from "digital advertising services," unduly burdening interstate commerce – and implicating the Commerce Clause – by sweeping in revenues generated both in other states and globally.

And it relied upon an unworkable mechanism to determine when digital advertising is provided within Maryland's borders.

Nevertheless, on March 18, Maryland's legislature adopted an amended version of S.B. 2, House Bill 732. H.B. 732 responds to that last critique – S.B. 2's failure to identify accurately in-state digital advertising – by punting the question to a future rulemaking by the Comptroller. Otherwise, it suffers from all of the flaws we identified in S.B. 2.

The FSF op-ed, which urges Maryland Governor Larry Hogan to veto this misguided bill, can be found here. 

Online Advertising May Be Annoying to Some, But Life-Changing to Others

There are two main business models that edge providers, like Google and Netflix, use to enable consumers to access information online. The first is through use of paywalls or a subscription-based model. For example, consumers pay a monthly or annual fee to a media outlet, like a The New York Times, or a video content provider, like Netflix, and receive unlimited access to that website’s content. The other more prevalent business model is through use of advertising. Edge providers will sell advertising space on their website, allowing consumers to access the content without paying a monetary fee. Edge providers need to generate revenue in order to have the incentive to create more content or, for example, report on important current events. Some people may find online advertising to be annoying, but others may see it as the only way to access information online.

In an August 2016 Perspectives from FSF Scholars, I discussed the importance of the advertising business model and showed how it benefits all consumers because they can access information without having to pay a subscription fee. For low-income consumers who cannot afford subscriptions, the advertising business model creates an opportunity for upward mobility by increasing their access to human capital and entertainment and raising their standard of living. For middle and high-income consumers who can afford subscriptions, advertising frees up income that would have been spent on subscriptions but now can be spent on other goods and services.

However, some consumers may find advertisements to be inconvenient or just simply annoying. Some websites have the option where consumers can choose the business model they prefer. Giving consumers a choice is the ideal scenario because consumers have different preferences toward advertising and subscriptions. There is nothing wrong with preferring one option over the other, but to say that consumers should be forced to use one option over the other ignores the fundamentals of economics.

Advertising often has been criticized for attempting to manipulate consumers into buying certain products, believe certain information, or vote for certain politicians. Vance Packard made this argument in his 1957 book The Hidden Persuaders. I might argue that “manipulate” is a harsh word, but I cannot argue that advertising does not influence consumer behavior. After all, companies would not advertise if it did not have an impact on consumer behavior and studies have shown that advertising works. But even though advertising influences consumers, it also creates an opportunity for consumers to access information without having to pay a subscription fee, freeing up money that would have been spent on subscriptions and encouraging additional economic activity.

In October 2016, Columbia Law School Professor Tim Wu published a book called The Attention Merchants, which discusses the history of advertising. The book also attempts to influence consumers into adopting subscription-based models to slow the wave of advertising throughout the Internet. In an interview entitled “Does Advertising Ruin Everything?” Tim Wu said:

We have to get over our addiction to free stuff. Suck it up and pay. A lot of people say, “I hate ads, I’m sick of ads, I’m sick of clickbait, I’m sick of this race to the bottom.” If you say that, you have to put your money where your mouth is. We have to get over our addiction to free if we’re going to save the web. That’s us, the users. We can’t expect everything to be free and to be good.

But oftentimes, consumers might think they have their preference sorted out in their head, but as soon as they are confronted with an economic choice, their decision does not represent their perceived preference. This too is not a bad thing; it is just the reality of consumers having imperfect information. A consumer may not enjoy ads and may complain about ads, but when confronted with the option to pay $10 a month, for example, advertising might be the preferred option.

As a consumer, Tim Wu may prefer subscriptions over advertisements, but his preferences should not dictate the preferences of other consumers. For example, it will be difficult for low-income consumers to simply “suck it up and pay” for subscriptions to online content. And while Tim Wu acknowledges that advertising enables many consumers to access online information who otherwise would not be able to, that point bears much more emphasis. Many consumers would not have access to the vast economic benefits of the Internet if not for the advertising business model. And for the consumers who can afford to use the subscription-based model but instead choose advertising, this action creates a consumer surplus that frees up money that can now be spent on other goods and services.

In other words, the advertising business model has created access to information for low-income consumers and has created additional economic activity for middle and high-income consumers who can afford but choose not to pay for subscriptions. Advertising may be annoying to some, but considering the vast economic benefits the business model brings to consumers around the globe, it’s actually life-changing.

Broadband Industry Groups Ask FCC to Reconsider Unnecessary Privacy Rules

Last week, multiple industry groups representing Internet service providers filed a petition asking the FCC to stay the unnecessary privacy regulations. The petition also discussed how ISPs are taking steps to protect customers’ privacy online. The groups, which include CTIA, NCTA, USTelecom, as well as various advertising and advocacy groups, state that the FTC's framework has protected Internet users for years while the FCC’s new rules create an inconsistent and confusing framework that weakens data protection online.