You Can Say What You Wanna Say About Chicago’s Cloud-Nine (Percent) Tax

Everything one will want in the 21st century, one will find in the digital-cloud including — Chicago Mayor Rahm Emanuel hopes — $600 million to fill in a budget gap in the public school teacher pension fund.

Team Emanuel, as his administration is known in Chicago, has imposed a “cloud tax” that will make digital-content streaming services, like Netflix, 9 percent more expensive. It also targets online databases.

Emanuel might desperately need the infusion of cash to erase its pension woes, but Chicago’s high-tech business startup community complains the new tax makes their dreams of success 9 percent more unlikely — along with decreasing their desire to remain in the Windy City by the same factor, if not more.

Some business lawyers believe the Chicago cloud tax is much more than a new line item business expense for entrepreneurs and another household expense for Windy City residents.

They say it is blatantly unconstitutional because the tax was neither created nor approved by the Illinois Legislature; it was the brainstorm of Chicago City Hall bureaucrats. That equates to taxation without representation.

Here’s what the brainiacs came up with: The new tax is an amalgamation of two recent decisions by the bureaucrats who work behind those closed doors of the Chicago Finance Department. The first was a ruling covering “electronically delivered amusements.” The other was a ruling that involved “nonpossessory computer leases.”

So, it isn’t just the cloud tax that is taxing the patience of Chicago’s entrepreneurial community. They are also facing a new tax on their computer and other hardware leases. Even more than the cloud tax this could quickly derail startup businesses because so few can afford to purchase their own equipment.

“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, a co-founder of TechNexus, wrote in an email to the Chicago Tribune.

But thanks the ubiquity of the Internet, it is not just Chicago businesses that will be affected by the new tax on the delivery of digital content.

No matter where a business is located in Illinois, chances are its stream of business will go through Chicago. The same is true for many businesses in the Midwest and Great Lakes Region. And when their stream of business goes through Chicago, it will be taxed.

A business incubator venue for high-tech startups in Chicago, 1871, complained about the new taxes on its website.

“There has been a lot of discussion in recent days objecting to the City’s recent announcement that it will continue to enforce a long-standing tax on the use of certain streaming and cloud-based technologies. This is primarily because the enforcement and collection of the tax would hinder the development of startups whose businesses rely upon or provide cloud computing and related services. Taxes like this would conflict with Mayor Emanuel’s agenda to make Chicago the premier location to develop new technology businesses, an agenda that the Mayor has pursued with great success over the past four years.”

Evidently Mayor Emanuel heard their cries. Also on the 1871 website is a message in which the business's founders say the Mayor’s Office has promised some changes.

“The Mayor’s Office sent us the following statement: ‘… we will announce that the administration will be taking measures to provide relief to small businesses so as not to put them at a competitive disadvantage with their peers in other cities. It will take us a month or so to formalize the proposal, but it will basically exempt start-ups (based on revenue) from paying the tax. Obviously a lot of legal issues here as this tax has been on the books for decades, but we are confident we can work through them.’”

But will it be enough? There is also the problem of perception becoming reality. Does Chicago want a high-tech business community with entrepreneurs risking everything to create the next great thing, or not?

At least one influential voice in the Chicago business community is backing the city’s entrepreneurs who often fly on a wing, a prayer, leased equipment and the Cloud.

“As best we can tell, Chicago may be the only major city in the nation to roll out a tax like this. We're betting that no city with serious designs on being a tech center will follow its lead,” Crains Chicago Business editorial team wrote on July 7.

Even if Mayor Emanuel is able to curse and bully his way through this fight, he might see his plan to rake in millions derailed in the courts. Tax attorney Stephen Krantz told GovTech.com the Chicago plan is simply illegal because it is a creation of city hall and not the legislature.

Chicago is not the only place where startup entrepreneurs are being introduced to the struggle that has waged eternally between politicians who need money and business people who create wealth.

The Michigan Department of Finance is locked in court battles over its digital content tax because, as in Chicago, the tax was created by bureaucrats instead of elected state politicians.

Alabama’s bureaucrats backed away from their plan that was similar to what Chicago and Michigan are trying to do because of the outcry from their high-tech entrepreneurs and constitutional attorneys.

But this can be done right. The state of Washington, Krantz pointed out, has had a tax on digital content since 2010. The difference is it was created by the state legislature and not bureaucrats trying to cover a budget gap.

“The state of Washington,” Krantz said, “is a poster child of doing this the right way.”