How This New Tax Could Make Life Harder For Entrepreneurs

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As we told you earlier, Netflix subscribers in Chicago will soon be paying more for the privilege of binge-watching their favorite TV shows. On July 1, the Windy City started leveling a 9% tax on Netflix, Hulu, Spotify, and other streaming media services. Yet as consumers fret about paying a bit more for entertainment, Chicago businesses may be the group that has the most cause for concern.

Per the recent ruling from the Chicago Department of Finance, businesses that pay fees for cloud computing services and online databases will also be subject to a 9% tax. That’s big news for companies that have enthusiastically embraced software-as-a-service, since it means they may soon be paying more — a lot more — for many essential applications. Even freelancers who use online tools like QuickBooks, Dropbox, or Adobe Creative Cloud could end up paying more to run their business.

Especially galling for some business owners is that the city announced the change unexpectedly and there were no public hearings on the issue. City leaders, for their part, argue that the change is simply a clarification of the existing personal property lease transaction tax, so no debate was necessary.

Officials also stressed that the cloud tax, which will add about $12 million a year to the city’s net income, was not, strictly speaking, a new tax.

“In an environment in which technologies and emerging industries evolve quickly, the city periodically issues rulings that clarify the application of existing laws to these technologies and industries,” Elizabeth Langsdorf, a spokeswoman for Mayor Rahm Emanuel, said in a statement.

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Workers work on projects at Groupon’s international headquarters on June 10, 2011 in Chicago, Illinois. (Photo by Scott Olson/Getty Images)

In the meantime, there are rumblings that the cloud tax will discourage tech companies from doing business in the city.

“Every tech startup in Chicago is either using cloud computing services or selling them, and the city being the first to set this precedent puts us at a disadvantage to every other major tech hub … or even our own suburbs,” Terry Howerton, the co-founder of Chicago-based venture collaborative TechNexus, told the Chicago Tribune.

For anyone considering starting a business in Chicago, especially a tech business, the tax raises huge concerns.

“[T]here are a lot of potential entrepreneurs and CEOs who may not be so innately drawn to the Windy City and they’ll weigh their options accordingly when deciding where to launch or, if they’re a graduate with an idea, whether they should stay,” wrote Will Flanagan in an opinion piece for ChicagoInno.

In response to those concerns, the city says that it is working on a system for exempting start-ups and small businesses from the tax.

“We started hearing from small-business owners especially [ones who] thought that they were going to be placed [at] an unfair advantage,” Langsdorf said in a statement. “After talking with them, we are now working to find a way to make sure they are not unfairly burdened.”

Chicago is the first major U.S. city to tax cloud computing. In 2013, Massachusetts tried to impose a tax on cloud services but the law was eventually repealed.

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While the move to tax cloud services is restricted to Chicago for the time being, if the change is successfully implemented, other cities may start to consider similar measures. And that would be a blow to many entrepreneurs and business owners.

Yet some caution that it may be too soon to panic about Chicago’s streaming tax, especially since the city may be overreaching its authority in an attempt to grab more revenue.

For one, the tax may be illegal because it wasn’t created by elected officials, but rather came out of a city department, Stephen Kranz, a tax partner with McDermott Will & Emergy told Government Technology magazine. In addition, the 1996 Telecommunications Act and the 1998 Internet Tax Freedom Act may prohibit cities from leveling these types of taxes, Jack Karsten and Darrell M. West noted in a blog post on the Brookings Institution website.

Follow Megan on Twitter @MeganE_CS

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