Brandon Johnson’s corporate levy could cause businesses to flee to the suburbs

Mayor Brandon Johnson’s administration has desperately sought politically acceptable tax increases to replace the $300 million property tax increase that Chicago city councilors unanimously rejected last week.

One of the biggest proposals on the table is an increase in the private property lease tax on cloud computing — bear with us, we’ll explain what that means in English — which the mayor’s office says would raise $128 million annually . That’s an enormous sum, so our curiosity was piqued.

Who would pay for that? And what would be the effects?

This levy is effectively a city sales tax on what companies pay to license cloud-based software, an important tool for virtually every modern office. It turns out that this tax, which at currently 9% may well be the highest in the country on this vital service, behaves like a per-employee tax on all but the smallest Chicago-based businesses.

The mayor’s office wants to increase the exorbitant tax rate to 11%, even exceeding the absurdly high 10.25% sales tax that ordinary Chicagoans pay on most purchases. If the City Council approves the increase, there is a risk that quite a few of the professional services firms that have driven much of the city’s employment growth over the past few decades may well see this measure as the final straw that breaks the camel’s back for some or move all of their businesses out of the city.

You don’t have to go far when you choose Vamoose. The Chicago suburbs generally do not impose taxes on business licenses for cloud-based software.

Chicago is one of the few cities in the U.S. that imposes a sales tax on businesses’ use of cloud-based software that powers many of the basic computer functions of everyday work life – email, accounting, etc. Some states (not the majority) do this, although not at a scale anywhere close to Chicago’s. The state of Illinois taxes business licenses for certain software, but the types of transactions the state targets are not nearly as large as Chicago’s.

The city has levied some form of tax on computer services for businesses for three decades. At the beginning of this period the tax was quite simple. The advent of the cloud in the 21st century, which allows software licensors to serve customers without the need for downloads or other concrete methods, complicates matters. The city levied the tax on the cloud starting in 2015. Initially, the rate at which Chicago taxed cloud-based software was lower than other software methods, but it wasn’t long before the city applied the same rate to all software licenses. The city increased the rate to 9% from 7.25% in 2021, which, not coincidentally, was the last time the city faced a budget deficit of more than $1 billion.

It’s not surprising that mayors resort to this tax in times of budget stress. The tax is difficult to understand and is not nearly as well known as the hated property tax. It’s easy for increases to slip under the radar.

But the problem for the city in continually relying on this source of revenue is that companies can reduce the cost of the levy by simply moving their employees out of Chicago. Why? If a company has Chicago as its billing address, the city’s tax collectors assume all of its employees are here and impose a 9% tax on the total cost of its software services. But companies can reduce their tax burden by proving to the city that only a percentage of their workers are in Chicago.

For example, if a company with a billing address in Chicago employs only 25% of its employees in the city, it only has to pay 25% of its software costs to the city.

In other words, there is a built-in incentive for companies doing business in Chicago to move their workers to the suburbs if this tax becomes too high. Such moves are a hassle for both employers and their employees, but in the age of telecommuting, this hassle is less.

Is 11% high enough to encourage Chicago companies to consider moving to the suburbs? Inertia is a powerful force, but we believe 11% would attract the attention of many CFOs.

“In my experience, companies will consider leaving the city of Chicago if it means they won’t be subject to a tax that is such an outlier,” said Samantha Breslow, a tax attorney at Kilpatrick Townsend & Stockton who specializes in state and local tax matters Company specialized us Wednesday.

In our conversations with business leaders across the city, word seems to be starting to spread that this potential $128 million revenue windfall could come at the expense of their constituents. Perhaps they should look at the problem this way: Would a revival of the so-called poll tax, the per-employee levy that the city imposed on businesses until Rahm Emanuel ended the job-killing practice more than a decade ago, have an impact? Grab attention faster?

The cloud-based software tax is a not-so-distant relative of the poll tax. The city’s business community should treat this as such and make their voices heard. So far, the release of the software tax increase has drawn little public word from the critics we’ve heard.

Brandon Johnson has spent far too much of his mayoral term thinking about where he could find more money to fund his progressive agenda. He and too many of his aldermanic allies have ignored a deteriorating business environment that is at the root of their financial problems.

A confiscatory tax on an essential tool for modern businesses will further exacerbate the economic headwinds plaguing Chicago. City councils should stop the increase, just like they did with the $300 million property tax increase.

The name of the law firm where Samantha Breslow is a partner has been corrected.

Submit a letter to the editor of 400 words or less here or email [email protected].