California Digital Ad Tax Should Look to Maryland for Lessons

California’s potentially historic $73 billion deficit has led to the introduction of a digital advertising tax to support local journalism. Before rushing to conclude that taxing digital advertising is a budget panacea, California should look to Maryland, whose own digital ad tax battle is playing out in court.

Because Maryland’s digital ad tax raises significant constitutional issues, the Maryland Supreme Court—and perhaps the US Supreme Court—will be the ultimate arbiter of its fate. This means it will be several years until we know the end of the story. So before taxing digital advertising, California should ask:

• How long will it take to determine the validity of a newly enacted digital advertising tax?
• How much revenue will the new tax raise?
• When will that revenue be received—will putative taxpayers pay under protest or not pay and wait to be assessed?
• What economic, reputational, and financial costs will potential litigation cause?

State Sen. Steve Glazer (D) properly—though obliquely—acknowledged the litigation battles the Maryland tax has spawned and that Tennessee and “policymakers across the globe are wrestling with [new] technologies that do not align neatly with traditional mechanisms of taxation, resulting in potential under-taxation.”

Glazer seems to imply that digital advertising is a pot of tax gold. He correctly noted that digital advertising platforms allow users to freely use search engines in exchange for ads and data collection.

However, he also said digital advertising platforms “generate tremendous profits” because they don’t pay for their business inputs (user data)—and therefore, digital advertising taxes may “provide meaningful taxation of [this] new kind of consumption” in the digital economy.

This line of thinking is incomplete and mere conjecture. Digital advertising platforms must invest substantial capital and labor to research and develop software, maintain and operate servers, and purchase energy to function. This means their business inputs have a cost.

As proven by Maryland’s digital ad tax statute, it’s exceedingly difficult to define digital advertising and likely impossible to identify where it is purchased, sold, or used. And Glazer acknowledges “advertising revenues are income for general net income tax purposes,” and any new digital advertising tax would be imposed in addition to the income tax already imposed on digital advertising platforms. States frequently tax the income and gross revenue of utility companies.

That heavier tax burden compared with nonregulated companies is unique to the utility industry because the state grants the utility an operational monopoly. Digital advertising platforms, on the other hand, are subject to market forces and aren’t monopolistic. Unlike the regulated utility, the digital advertising platform would receive nothing from the state in exchange for bearing a heavier tax burden.

Digital advertising platforms are subject to even more regulation than most other free market enterprises because some states have imposed—or are proposing—data privacy requirements. It follows that digital advertising platforms shouldn’t be taxed more heavily than any other non-regulated business.

Though Glazer should be applauded for debating how California might solve its looming budget conundrum, the current state of Maryland’s digital ad tax strongly suggests California shouldn’t be lured by the digital advertising tax sirens.

Perhaps California should instead pursue a route to fiscal stability that has already shown success, such as reducing tax rates or eliminating taxes to stimulate the economy.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Mike Semes is of counsel at BakerHostetler and professor of practice at Villanova University School of Law’s graduate tax program.

Write for Us: Author Guidelines