Panel of federal judges says a First Amendment challenge to Maryland’s digital ad tax should be considered

The U.S. Court of Appeals for the 4th Circuit directed a lower federal court Wednesday to consider the merits of a challenge to Maryland’s first-in-the-nation digital advertising tax on First Amendment grounds, while agreeing that three other challenges should be dismissed.

It’s a law that attorneys for Big Tech have contended unfairly targets companies like Facebook, Google and Amazon. Companies can be taxed the minimum of 2.5%, but if they are companies grossing over $15 billion in global annual income, taxes max out at 10%, according to court documents. The legal case is being closely watched by other states that have also weighed a similar tax for online ads.

The three-judge panel of the 4th U.S. Circuit Court of Appeals disagreed with a lower federal court’s decision to dismiss the challenge on First Amendment grounds argued by the U.S. Chamber of Commerce, as well as three other trade associations.

The Maryland law, which taxes companies like Facebook and Google for money they make from digital ads on the internet, prohibits the companies from passing along costs to customers who buy ads. But plaintiffs contended that passing along the costs violated the First Amendment.

“The district court in the first instance should decide whether the pass-through provision restrains speech and, if so, whether it passes constitutional muster,” the appeals court said in its decision.

The appeals court agreed with the lower court’s decision to dismiss three other challenges to the legality of the law that were brought under the Internet Tax Freedom Act, and the commerce and due process clauses.

The federal district court in Maryland dismissed those three counts as prohibited by the Tax Injunction Act, which prevents federal courts from enjoining the collection of state taxes when state law provides an adequate remedy. The three-judge panel vacated the lower federal court’s judgment to dismiss the three challenges with prejudice, instructing the court to dismiss without prejudice. That’s significant because it means those challenges could be raised in another legal venue.

The court had dismissed the First Amendment challenge on mootness grounds, after a state trial court declared the tax unconstitutional in a separate proceeding. However, the Maryland Supreme Court later vacated that judgment.

Maryland Attorney General Anthony Brown said in a news release Wednesday that he will continue “to defend this transformative legislation and still believe in the validity of this law.”

“The purpose of the digital ad tax is to provide critical funding to improve Maryland’s public education system and prepare our students to compete in the global marketplace,” Brown said.

Maryland lawmakers overrode then-Gov. Larry Hogan’s veto of the digital ad tax measure to pass the legislation in 2021. The state estimated the tax could raise about $250 million a year to help pay for a sweeping K-12 education measure.

The law taxes revenue that the affected companies make on digital advertisements shown in Maryland.

In November 2023, Apple tried to get a refund of $756,000 in payments made in 2022 under this law before it was put on hold. At least 13 other companies followed Apple’s lead in challenging the law.

Attorneys for Big Tech companies have contended that the law unfairly targets them. It would impose a tax based on global annual gross revenues for companies that make more than $100 million globally.

Supporters have described it as a necessary step to overhaul the state’s tax methods in response to significant changes in how businesses advertise. The state has received $172.5 million from the tax since the beginning of 2022, according to the comptroller’s office. The money from the act will be used to fund the public education systems and career readiness programs, according to court documents.

Nonetheless with the ruling, the Maryland Digital Ad Tax Act — which has brought in over $170 million from taxing the largest technology firms for digital advertising services — will continue to be enforced while the free speech claim against it will be reconsidered in a lower federal court.

Baltimore Sun reporter Tony Roberts has contributed to this article.