Questions Surround the Plans for Chicago and Other Cities to Tax Cloud Services
The best thing you can say about Chicago’s new 5.25 percent tax on cloud services, which went into effect on January 1, 2016, is that it is unlikely to survive a court challenge. The city claims it is merely clarifying its existing Transaction Tax that applies to non-premises computer leases, but others question the city’s legal right to levy what many businesses and residents claim constitutes a new tax.
The new cloud tax exempts small startups, but it applies to all other providers and consumers of cloud services. A similar expansion of Chicago’s Amusement Tax applies to all streaming content sent to or received by businesses and residents with street and IP addresses within the Chicago city limits. The taxes are levied even if the resident is outside the city limits when using the service. That’s only one of the puzzling aspects of cloud taxes that a growing number of municipalities–including New York, Boston, Seattle, and Austin–are enacting.
Computer Leasing Tax Gets a Cloud-era Update
In June 2015, Chicago comptroller, Dan Widowsky, ruled that the city’s nine percent property lease transaction tax applied to cloud services. The city also issued a ruling that extended its amusement tax to streaming services, such as Netflix and Spotify. The new taxes were originally intended to take effect on September 1, 2015, but the start date was ultimately pushed back to January 1, 2016. Amazon Web Services, Netflix, and other cloud and streaming vendors are expected to begin paying the taxes as of February 15, 2016.
Following discussions with Chicago’s business community last summer and fall, the ruling was amended, reducing the tax to 5.25 percent and exempting companies that are less than five years old and that have less than $25 million in revenue. John Pletz reports on the backlash against the tax in a January 12, 2016, article on Crain’s Chicago Business.
Tech companies and their customers located in Chicago, as well as their counterparts in other cities that have applied local taxes to cloud services, are left scratching their heads. They struggle to understand how city officials can profess to support growth in the tech sector in their communities on the one hand, while on the other hand, via taxation they reduce the revenue these companies are able to invest back into their communities through salaries and other spending.
Vagueness Brings Fair Implementation of the Cloud Tax into Question
When a Chicago business purchases cloud services, or provides cloud services to its customers, the tax must be collected. What’s uncertain is how the tax will be levied when the company is located in Chicago but its computer facilities are situated elsewhere. Likewise, what happens when the service is accessed via a mobile device or via a remote connection to a Chicago office? Another uncertainty is the resale of cloud services, which could result in double taxation—once by the provider and again by the consumer.
Amazon recently clarified its approach to the tax in a letter sent to its customers in Chicago. Rather than attempting to collect the 5.25 percent tax directly from customers, the company will pay the tax itself based on its calculation of what the customers owe to the city.
The Daily Signal’s Jason Snead reports in a September 18, 2015, article that six Chicago residents have filed suit to block the taxes on cloud services and streaming content. The residents claim the city exceeded its authority when it enacted the taxes. The plaintiffs also assert that the taxes violate the Internet Tax Freedom Act of 1998 by discriminating against products and services acquired online, compared to their counterparts purchased via a non-Internet source.
For many consumers and providers of cloud and streaming services, the bigger issue of local taxes is public policy. How can a city present itself as business-friendly when it handicaps companies in their attempts to compete with their counterparts located in areas that aren’t subject to such taxes? Also, imagine the administrative headache for a company such as Amazon that has to account for the taxes levied by dozens or even hundreds of separate, distinct municipalities? The onus of calculating, collecting, and accounting for the taxes is another penalty applied only to a specific class of businesses.
The decline in hardware and software purchases and leases has reduced the amount of tax revenue collected by cities. It’s natural that municipalities would look for ways to recoup that lost revenue. Several analysts point out that there are many more practical ways to abide by the spirit of the tax policy while also being fair to the businesses that provide and consume these increasingly vital services.