Computer Services Firms Want Sales Tax Repealed
Affected Businesses Say They Were Caught Off-Guard by Eleventh-Hour Levy

By John Wagner
Washington Post Staff Writer
Sunday, December 9, 2007

The idea surfaced in a private meeting of a group of Maryland senators known as the "lunch bunch," coming just as other tax proposals were meeting steadfast resistance:

Why not apply the state sales tax to computer services?

The provision, raised amid the hectic special session of the General Assembly last month, promised to raise about $200 million a year toward closing a budget gap of at least $1.5 billion. And the tax would have limited impact on working-class families, who were being pinched by other proposals on the table.

The idea, which soon thereafter became Maryland law, is now drawing the ire of business groups, technology associations and computer executives caught flat-footed by its passage three weeks ago. They are scrambling to hire top-notch Annapolis lobbyists and persuade lawmakers to repeal the tax when they convene next month.

"Our members are understandably shocked," said Julie Coons, chief executive of the Tech Council of Maryland, part of a coalition pushing for the tax's repeal when the General Assembly session starts Jan. 9. "This is essentially taxing Maryland firms for trying to stay competitive in this regional, national and increasingly global economy."

Under the provision, the state will apply its 6 percent sales tax to an array of computer services, including custom programming, data processing and hardware maintenance.

Individuals will be subject to the tax when they call on such services as the Geek Squad for help with their home computers. But most of the revenue from the tax is expected to come from Maryland businesses that contract with firms for their computer needs. No other states in the region impose a similar levy.

The tax is set to take effect July 1, which provides a window of opportunity for opponents before collections start. Most other measures included in a $1.4 billion tax package -- increases in sales, tobacco and corporate income taxes, as well as in the income tax rate for high-end earners -- commence Jan. 1.

Leading lawmakers interviewed last week expressed ambivalence about the passage of the computer services tax, but most suggested that its full repeal is unlikely, given the large amount of money it could generate for the state.

House Majority Leader Kumar P. Barve (D-Montgomery) said he is "not a big fan" of the tax but doubted that "the whole thing would be repealed."

Sen. Rona E. Kramer (D-Montgomery), who said she would like to see the tax repealed, said many of the concerns lawmakers are hearing now would have come to light had the Senate held a hearing, which is typically part of the legislative procedure. "The culprit here was the process," Kramer said.

The computer services tax was not one of the options on the table when Gov. Martin O'Malley (D) called the special session. O'Malley and some lawmakers raised the idea of expanding the sales tax to various services to help close a gaping budget shortfall and to modernize Maryland's tax code, reflecting an economy now driven more by services than manufacturing.

Proposals to tax health clubs, landscaping services and auto repairs were among those put forward during the session by either O'Malley or legislative committees. Several were dropped from consideration after outcries from affected industries and their lobbyists.

Only computer services, which carried the largest price tag by far, was included in the final package.

"We looked at services, and we were looking at revenues, and the combination of the two is how it came to be in the bill. There was not some scientific analysis that went into it," said Sen. Ulysses Currie (D-Prince George's), chairman of the Budget and Taxation Committee, which added the computer services tax to the package in the middle of the 21-day session without holding a hearing on the measure, citing time pressure.

The "lunch bunch" consists of senior members of Currie's committee, who often meet privately before presenting proposals to other members of the panel. None of those interviewed would publicly identify the senator who suggested the computer services tax, which was included in a long menu of possibilities distributed by legislative aides.

Sen. Richard S. Madaleno Jr. (D-Montgomery), a freshman on the budget committee, said he did not know exactly how the tax came about. "You'd have to talk to someone who was in the backroom," he said.

Executives from computer services companies said the episode has been a wake-up call to the ways of Annapolis, and several are now talking about trying to hire some of the state's more powerful lobbyists before the session starts next month.

"To me, it's shocking that something this dramatic got done so fast," said Tom Loveland, chief executive of Mind Over Machines, an Owings Mills-based company that operates an office in Bethesda focused on federal contracts. "I was just horrified and realized our industry needed a stronger voice in Annapolis. I am not willing to just sit by and wait for my chamber of commerce-type groups to take care of this for me."

For a time, it appeared that the computer services tax had disappeared.

After the tax's initial passage in the Senate, House budget writers chose not to include it in that chamber's version of a revenue package. But voicing some reluctance, House leaders agreed to the tax during negotiations on the final full day of the special session, once it became apparent that the budget shortfall would not be closed without it.

The Maryland Chamber of Commerce has announced that repealing the tax will be among its top priorities in the upcoming legislative session, in part because of the tariff's broad impact on the business community.

Ronald W. Wineholt, the chamber's vice president of government affairs, said the organization is particularly concerned about small businesses, which are more likely to contract with other companies for computer needs.

The tax will be levied on individuals and companies in Maryland when they pay for certain computer services. And the tax will apply regardless of whether the provider is in Maryland, according to both legislative analysts and officials from the Comptroller's Office, who have started developing regulations that will provide more details about the application of the tax and the logistics of its collection.

In many cases, when Maryland companies purchase computer services from out-of-state vendors, they will be required to report the taxes they owe to Maryland officials, a practice consistent with other out-of-state businesses purchases, Deputy Comptroller Linda L. Tanton said.

Tanton said several issues remain to be worked out, including some related to long-term computer service contracts that have already been initiated. She said her office will probably wait until the legislative session ends in April to issue final regulations, given the renewed debate on the issue.

Nine states now tax computer services, according to legislative analysts. Some others, including Pennsylvania and Florida, attempted to impose the levy but later repealed it after difficulties collecting it. In Connecticut, litigation has arisen over what kind of computer services are subject to the tax.

Opponents of the tax in Maryland point to several potential problems, including hindering the ability of computer services firms to bid on federal contracts. The federal government will be exempt from the tax. But prime contractors in Maryland who use subcontractors will be subject to the tax on that work, which could drive up the overall cost of the contract.

At the insistence of House leaders, lawmakers agreed to place a five-year "sunset" on the computer services tax, meaning that the provision will expire in 2013 if the General Assembly does not vote to extend it.

Barve, the House majority leader, said he is confident that several bills will be introduced to terminate the tax before its collection starts -- and that the issue will get a full airing.

"There will be hearings on this, and I expect they will be well attended," he said.