When Maryland adopted the nation’s first tax on digital advertising in 2021, legislators hoped for a nudge for consumers to switch from ad-supported free services to paywall-based models, to target big tech companies, and to collect as much as $250 million a year in additional revenue.
Four years later, the tax has proven a debacle. Regulations to apply the tax to non-Maryland companies while insulating Maryland companies have proven difficult and confusing. Multiple state and federal lawsuits are advancing, challenging the tax for violating the federal Internet Tax Freedom Act (ITFA), the Commerce Clause and Due Process Clause of the U.S. Constitution, and the First Amendment. Maryland’s revenue collection has fallen short, at approximately $90 million a year, and even that amount would have to be refunded if any of the lawsuits succeed. Additionally, while Maryland pursues this tax, it undermines U.S. negotiators who are resisting attempts by France and other countries to extract revenue from U.S. companies with similar taxes. Finally, while many other states have considered similar laws, none have followed Maryland’s lead.
2019–2021: From Proposal to Enactment
Following on a May 2019 op-ed by Professor Paul Romer urging states to use tax policy to encourage paywall-based digital services and discourage ad-supported free digital services, Maryland’s Senate President introduced what became the digital advertising tax in January 2020. He invited Romer to testify in support, and promised the revenue would boost state education spending.
Although Maryland’s attorney general warned that the proposal may be unconstitutional and violate ITFA, Maryland’s legislature approved the bill in March 2020 in a marathon session that mass-passed 500 bills before adjourning due to the COVID-19 pandemic. Governor Larry Hogan vetoed the bill, and legislators overrode the veto in February 2021.
Key provisions of the bill include:
Applies to all gross revenues derived from digital advertising in Maryland. Subsequent regulations must define “in Maryland.”
The tax is imposed at a rate of 2.5% for companies with $100 million or more in global revenue; 5% for companies with $1 billion or more in global revenue; 7.5% for companies with $5 billion or more in global revenue; and 10%for companies with $15 billion or more in global revenue. The rates are not marginal rates like most other taxes, but apply from the first dollar.
Any taxpayer who annually earns more than $1 million from digital advertising in Maryland must file a tax return. Broadcast and news media are exempt.
Failure to file a tax return results in fines and penalties up to five years’ imprisonment.
Taxpayers are prohibited by law from passing the tax on to their customers. This is at odds with tax transparency laws that most states have (including Maryland) that require taxes to be separately stated to customers.
The start date of the tax was January 1, 2022. (As originally passed it was January 1, 2021, but it was later moved.)
Litigation in federal court began in February 2021. The U.S. Chamber of Commerce alleged a violation of due process, interstate commerce, the First Amendment, and ITFA. In March 2022, the judge ruled that most of the arguments should be made in state court but asked for argument on the First Amendment question. In December 2022, the judge dismissed the case as moot, but this ruling was reversed in January 2024 by the U.S. Court of Appeals for the Fourth Circuit. In July 2024, the judge ruled that the tax was not barred by the First Amendment, and that decision has been appealed again to the Fourth Circuit, which will hear argument in May 2025.
Comcast and other companies initiated state court litigation in April 2021. In October 2022, a state court judge invalidated the tax, saying it targets out-of-state companies by taxing global revenue. This decision was reversed on procedural grounds by the Maryland Supreme Court in May 2023, which held that the companies must exhaust administrative remedies before being heard in court. That fall, four companies filed refund claims, beginning that administrative process. The Maryland Tax Court heard arguments on these claims in November 2024, and its initial decisions are pending.
The lawsuits have challenged Maryland’s tax on several independent grounds:
Violates the Internet Tax Freedom Act (ITFA) for taxing digital advertising but not non-digital advertising. Signed into law by President Barack Obama in 2016, ITFA bans state taxes that discriminate against interstate commerce. The law defines a discriminatory tax as any levy imposed on internet-based goods and services that is not imposed on non-digital equivalents. The Maryland tax does exactly that, being imposed on digital advertising but not non-digital advertising. In his memo, diplomatically describing the Maryland tax as “not clearly unconstitutional,” Maryland Attorney General Brian Frosh expressed the most concern about a challenge under ITFA.
Impermissibly burdens interstate commerce in violation of the U.S. Constitution’s Commerce Clause by being structured to tax out-of-state companies discriminatorily. Under Supreme Court precedent, states cannot impose taxes that burden interstate commerce by taxing or otherwise penalizing out-of-state activity while leaving identical in-state activity untaxed or unpenalized. Maryland is seeking to do this, importing tax revenues while exporting tax burdens by designing its tax to apply only to digital advertising service companies with large global revenues and thereby excluding in-state competitors.
Violates the U.S. Commerce Clause by harming diplomatic negotiations on global digital taxes. American officials are currently enmeshed in negotiations over the French digital service tax and proposed Europe-wide or global digital taxes. Maryland enacting a similar tax while our diplomats are resisting foreign attempts to oppose them is counterproductive. In 1979, the U.S. Supreme Court held that state taxes that prevent the United States from “speaking with one voice when regulating commercial relations with foreign governments” violate the Foreign Commerce Clause.
Violates the U.S. Constitution’s Due Process Clause by seeking to regulate conduct outside of Maryland. The lawsuit alleges that because the conduct targeted by the law is almost exclusively undertaken by out-of-state companies, it amounts to Maryland impermissibly regulating extraterritorial conduct.
Violates the First Amendment. The tax is explicitly on one type of speech, with evidence that legislators openly intended to punish or signal their disapproval of companies that use targeted advertising. In Grosjean v. American Press Co. and Minneapolis Star Tribune Co. v. Commissioner, the U.S. Supreme Court considered the impact of taxes on the news media, ruling that industry-specific taxes violate the First Amendment’s speech protections. The prohibition on separately stating the tax on receipts also restricts what taxpayers may say.
While the law was enacted almost four years ago, the state-level litigation will likely last years more. The federal-level lawsuit may resolve sooner, but narrowly only on the First Amendment question. While Maryland’s actual collections from the tax have fallen short of expectations, even that amount would have to be refunded if any of the lawsuits succeed.
States looking for a silver bullet for their revenue problems should look elsewhere. If something is too good to be true, it probably is. Academic proponents of this tax have sold this idea as a new way to collect large sums of revenue by targeting out-of-state companies with deep pockets. The actual experience has shown the reality to be far short of that. (New York’s proposed data tax died after policymakers realized it would hit even in-state brick-and-mortar businesses due to the ubiquity of data collection.) Additionally, the underlying policy assumptions are incorrect: a separate, punitive-level tax is not warranted because these companies already pay state-level corporate income taxes, primarily where they have property and employees and benefit most from state-level government services. Public finance scholars generally reject gross receipts taxes as distortive and harmful to economic growth, and this tax is no exception.