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In June, Mayor Rahm Emanuel’s office quietly announced a new ruling that took the Chicago tech scene by storm.
Popularly dubbed the “cloud tax,” the ruling plans to expand a long-standing statute so that it now includes what it sees as taxable, tech-based transactions (think cloud-based services like SaaS, and PaaS).
Despite the city’s usual efforts to support the city’s tech startup community, the tax sits at a hefty 9 percent, leaving many leaders in the tech community vocal with concern.
The Mayor seems open to relief for technology startups, but even after many tech companies and taxpayer advocacy groups have met with the City expressing their concerns, there's been no resolution on what exactly that relief might look like — and more importantly, when companies might see it.
Local tech businesses are left scurrying to understand the tax and if and when it will come into play.
We sat down with Ron Cook, a state and local tax expert from Plante Moran, to set the record straight on exactly what the tax is and how it could affect your business.
Chicago Personal Property Lease Transaction Tax
Chicago’s lease tax has been around for quite some time, Cook explained. If your business rents out, say, a copy machine or other form of tangible personal property in the city, you’ve already been paying the tax.
Now, the city wants to extend that lease tax to various cloud services. Let’s say you regularly rely on a service as a software. Unless parameters for exemptions are better defined, that lease is now taxable.
The city’s argument?
Somewhere out there, that information is being held on a server—which it sees as tangible, personal property. If that user of the service is located within the city limits, it may be subject to the tax, Cook said.
That means businesses who offer taxable cloud-based services might need to jack up prices to collect from clients in order to pay the city’s dues. Or, if they can’t afford to up prices and risk losing customers, they’ll have to pay directly out of pocket.
As it stands, the tax does provide a few exemptions — but they're very limited. If a customer’s use or control of a provider’s computer (think server) is largely insignificant, and if the customer predominantly receives information but neither uses nor controls the provider's computer, the transaction may not be subject to tax.
“Applying the Chicago lease tax to a broad range of cloud services is going to create a significant financial burden for many companies, especially startups, and may cause companies currently operating in Chicago to consider locating to a more tax favorable city,” Cook said. “Further, it may prevent some businesses from looking at Chicago as a desirable location in which to locate.”
Tech leaders remain adamant that the tax deals a heavy blow to tech innovation in the city.
“I certainly can understand where Chicago and other municipalities are struggling with the decline in sales tax, as online disruptors attract consumers away from bricks and mortar businesses,” wrote Toby Owen, VP of product management at Peer 1 Hosting & Cogeco Data Services in an email to Built In Chicago. “But to tax the consumer of cloud services is a reactive measure, and puts the consumer in the place to make up for the lack of planning from the city.
“A more proactive approach would be to incent cloud providers to locate their businesses in Chicago,” he continued. “The reality is that the revenue potential isn’t evaporating. Money is still changing hands for services, but that money is going to providers of technology solutions, not sellers of physical items. That means that the tax revenues collected by these service providers are going somewhere. The smart cities, who saw this trend and have been successful in wooing large tech and cloud providers to set up shop in their cities, are reaping the benefits. Chicago should do the same.”
To read Plante Moran’s tax alert, which provides a more in-depth analysis of the tax, click here.
Update: The City of Chicago recently announced that it has delayed Ruling #12’s effective date from September 1, 2015 (as mentioned in the original version of this article) to January 1, 2016. The change was primarily made to allow the City time to consider providing relief, and to give businesses more time to update their systems to account for the expanded tax. Changes providing relief to the lease tax would require City Council approval, and, per Chicago’s release, probably would coincide with the new effective date of the ruling. Chicago indicated that it may issue additional guidance addressing certain questions that have been raised in response to Ruling #12.
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