Promoting Convenience, Choice, and Commerce on The Net. 1. Harm to Maryland from Digital Goods Taxation

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1 The NetChoice Coalition Promoting Convenience, Choice, and Commerce on The Net Steve DelBianco, Executive Director 1401 K St NW, Suite 502 Washington, DC February 21, 2012 Representative Sheila Hixson House Ways & Means Committee Maryland General Assembly Annapolis, Maryland RE: Opposition to HB 87, Tax on Digital Products and Advertiser- Nexus Taxes Dear Chairwoman Hixson and Members of the Committee: We fully understand the need for states to seek out additional tax revenue. However, we worry that HB 87 has two flaws: 1. The tax on digital goods will harm the Maryland environment and tech sector and business competitiveness, and 2. The advertiser- nexus taxes will decrease state revenue, harm schools, and encourage businesses to leave the state. 1. Harm to Maryland from Digital Goods Taxation If Maryland begins taxing digital goods, it will undermine its ongoing green initiatives, harm Maryland s technology sector, and encourage businesses to select states like Virginia as principal place of activity. Harm to Maryland s Environment Digital Goods are Green Maryland prides itself on its green initiatives. However, since we typically tax things we don t like, this new tax would signal Maryland s disapproval of eco- commerce. The result of such a tax is Flaws of HB 87 Harm from Digital Goods Taxes Opposes Environmental Protection Efforts Costs Maryland Technology Sector Disadvantages State's Business Competitiveness Harm from Advertiser- Nexus Tax Collection Decreases State Revenue Costs Maryland Schools and Charities Harms Publishers Based in Maryland Maryland s residents logging more miles in their cars to buy physical products whose raw inputs and carbon outputs contribute to global warming. A digital download is the greenest way to buy music, movies, books, games, and software. Downloading requires no driving to the store, no delivery vans, and no plastics or packaging. One study commissioned by the European Union compared the amount of resources (minerals, fossil fuels, etc) required for 56 minutes of music: 1

2 Physical retail: 3.4 lb Online purchase with physical delivery: 2.9 lb Digital distribution: 1.3 lb According to the Recording Industry Association of America, in 2007 nearly 100 million full albums worth of music was digitally downloaded by Americans. In 2007 alone, more than 200 million pounds of natural resources were saved by US consumers buying music digitally instead of driving to the store for a CD. This works out to more than 380 pounds of natural resources every minute. Maryland s leaders should identify ways to encourage the environmental benefits realized when consumers use digital delivery instead of driving to a store for a tangible item that has to be produced and packaged. This would further signal Maryland s commitment to environmental sustainability, and it would send a strong positive message about the benefits of eco- commerce. Harm to Maryland s Technology Sector Now is a critical point in the evolution of e- commerce and Internet content distribution. Online companies are experimenting with new ways to deliver information, services, and content; and businesses of all kinds are going online to reach consumers and advertise to receptive audiences. At the same time, state governments are looking online for additional revenue, including taxing digital products. However, most states that considered such tax revenue realized the potential harm and avoided such taxes. Vermont and Indiana rejected such bills. California and New York likewise changed their positions and now reject the taxation of digital goods. Virginia and North Dakota enacted legislation that would affirmatively exempt any item transferred electronically in order to lure digital businesses. And Iowa offers tax incentives to encourage e- commerce businesses to its state. Maryland has a strong technology sector whose businesses are directly impacted by the passage of a digital goods tax. Consider Bethesda Softworks in Rockville. This company is the third largest privately held personal computer entertainment software company in America and employs hundreds of people. Bethesda Softworks sells many of their top grossing products as digital goods such as the video game Skyrim. If these sales are taxed, it will force development of a tax collection infrastructure. We believe that Maryland should conclude that this tax proposal would negatively impact the state. It will penalize the environmental benefits of digitally delivered goods as well as discourage economic development and job creation among Internet companies. Competitive Disadvantage to Maryland s Economy versus Virginia States that begin taxing digital goods put themselves at a competitive disadvantage when encouraging new businesses to move into the state and supporting existing businesses trying to stay and grow. Consider a new online service weighing the costs of basing operations in Maryland or Virginia. Virginia already offers many pro- businesses tax incentives such as an established exception of digital goods from 2

3 taxation and economic incentives for building digital servers in the state. If Maryland levies the types of taxes proposed in HB 87, it loses points on that score versus Virginia. Also, since out- of- state businesses do not have physical presence in Maryland, only Maryland businesses would be required to collect these digital goods taxes. This imposes tax collection requirements only on Maryland businesses, further disadvantaging them versus their competitors in states like Virginia and Delaware. Moreover, since no out- of- state businesses are collecting digital goods taxes, the actual revenue collected will be much lower than estimated. Maryland should instead follow Virginia s lead by affirmatively exempting digital goods from taxation. 2. Harm to Maryland from Advertiser- Nexus Taxes This past July, we testified before Maryland s Senate Budget and Taxation Committee on the issue of advertiser- nexus taxes. In that testimony we explained how advertiser- nexus based tax collection only hurts the state without creating any new tax revenue: all pain and no gain. We worry that HB 87 will inflict that very pain on the state. The Loss Of A Growing Source Of Revenue For Maryland Online Publishers HB 87 is designed to increase collection of sales taxes when Maryland residents purchase from out- of- state businesses. It would apply to retailers that use an extended network of websites for displaying advertisements. The law redefines what it means to be a business in the state and creates a presumption of nexus when an out- of- state company pays Maryland companies for sold- thru referrals from its websites. Today, both online and traditional companies are experimenting with ways to deliver products, services, and content, while businesses of all kinds are using online advertising to find distant customers. State laws that declare Internet advertising a proxy for in- state sales agents will stunt the growth of new business models and distort the evolution of Internet marketing. Website publishers across Maryland rely on revenue generated from referral advertising. Often these referrals are to out- of- state retailers with no physical presence in Maryland and no obligation to collect and remit sales tax for Maryland purchasers. A critical question before your committee is whether out- of- state retailers would continue to advertise with Maryland publishers if Maryland enacted HB 87 as a way to force out- of- state retailers to collect and remit state sales taxes. Would they sue the state over questions of constitutionality? Would they follow the example of hundreds of retailers who simply stopped their commission based advertising in New York, Rhode Island, Illinois, and North Carolina after those states enacted a similar law? The net effect is a lot of pain with little gain. There hasn t been a flood of new taxes flowing into the states enacting these laws. The Performance Marketing Association (PMA) estimates that when the advertiser nexus tax passes, affiliate marketers lose a third of their revenue. With that level of losses, affiliates have been laying- off employees or moving out of state. Either way, the state loses tax revenue from the businesses and employees affected. 3

4 Other states are reconsidering similar laws. For example, the state treasurer in Rhode Island recommended repealing its advertiser- nexus law after advertisers simply cancelled their affiliate programs. Retailers like Amazon and Overstock discontinued their affiliate programs after Rhode Island, North Carolina, Illinois, California, and Connecticut enacted this law. The result was that these states lost jobs and income taxes without realizing additional sales tax revenue. Maryland has much to lose if major e- retailers were to cancel their affiliate programs here. Consider the example of Discovery, a world- class media company based in Silver Spring, with over 2,000 employees. To pay the costs of creating and hosting online content, Discovery relies on advertising by retailers seeking to reach its website visitors. As seen in the screen below, one of Discovery s popular sites, howstuffworks.com, shows what a consumer would see if she turned to howstuffworks.com to determine whether to repair or replace her aging kitchen blender: Of the five retailers who purchased ads on this web page, four have no presence in Maryland and therefore have no obligation to collect and remit sales tax for Maryland purchasers. A critical question before your committee is whether these out- of- state retailers would continue to advertise with Discovery if Maryland enacted advertiser- nexus as a means to force advertisers to collect state sales taxes. Looking beyond Discovery, Maryland has over 4,000 website publishers who earn ad revenue through affiliate programs. Each of these publishers would see a significant loss of ad revenue, causing them to eliminate jobs or leave the state. We therefore caution Maryland against following this aggressive and constitutionally dubious approach and to refrain from imposing tax collection burdens on retailers that spend their advertising dollars with publishers and businesses based in Maryland. Harm to Maryland Schools Consider the bill s surprising impact on a growing source of fundraising dollars for Maryland s charities Box Tops for Education. For years, kids around the country have been collecting box tops from cereal boxes to raise money for field trips and new equipment. Box Tops for Education has raised over a hundred million dollars - - by 4

5 collecting just a few cents on every box top. Today, this fundraising has gone online via Box Tops Marketplace, generating commissions when parents shop at affiliated e- commerce websites. Here s the Box Tops Marketplace webpage: The Box Tops Marketplace has grown to over a hundred participating websites, offering parenting essentials such as pet supplies, shoes, books, clothing, and household goods. Each of the online stores in the Box Tops Marketplace gives a percentage of sales to support good causes in Maryland: In Maryland, schools like the Greenbelt Elementary, and Atholton High encourage parents to do their online shopping at Box Tops Marketplace to generate commissions for their school fundraising efforts. 5

6 Thing is, few of the online stores participating in Box Tops Marketplace have any physical presence in Maryland. Would the out- of- state retailers in Box Tops Marketplace continue to work with Maryland s schools and PTAs if the state enacts HB 87? More likely, these advertisers will simply cancel their online affiliate programs as they did in New York, Rhode Island, North Carolina, and Illinois after those states enacted a similar law. Encourages Maryland Businesses to Leave the State Just like the tax on digital goods, the advertiser- nexus taxes proposed in SB152 encourage businesses to leave Maryland for other states. For example, Illinois made the mistake of passing a bill similar to HB 87. When Illinois passed HB 365 last March, within a matter of hours thousands of affiliates lost a major source of income. Even more embarrassing, many of these companies moved to neighboring states like Wisconsin and Indiana. Of the 12 largest affiliates in Illinois, 11 moved to other states, taking over 275 jobs with them. This is analogous to the problem Maryland faces if it passes HB 87. If passed, website publishers would likely leave Maryland and move to Delaware, a state with no sales tax. The Wisconsin Governor met the online advertiser Fat Wallet at the state border as the company moved from Illinois to Wisconsin HB 87 is New Pain with No Gain The net effect of HB 87 could be new pain with no gain. In no event would new money flow into Maryland from an advertiser- nexus tax; any incremental sales tax collected just moves from the Maryland purchaser to the state treasury. Moreover, the digital goods tax is another tax on Maryland residents at a time when households are being squeezed by a struggling economy. In the end, fewer dollars would flow to Maryland businesses and websites who employ and serve Maryland s residents. We therefore urge you to oppose HB 87 and to refrain from imposing additional burdens on Maryland businesses, its citizens, and retailers who spend advertising dollars with Maryland businesses and charities. Thank you for considering our views. Please let me know if I can provide further information. Sincerely, Steve DelBianco Executive Director, NetChoice cc: Members of the Committee NetChoice is a coalition of trade associations and e- Commerce businesses who share the goal of promoting convenience, choice and commerce on the Net. More information about NetChoice can be found at 6