Chicago flunks cloud economics

The city of Chicago has devised a brilliant plan to jack up its cloud computing tax from 9% to 11%. As someone who has worked in tech for decades, I’ve seen this movie before, and (spoiler alert) it didn’t have a happy ending.

This is not a diatribe against taxes; taxes are not the issue here. This is about a ploy to soak a specific technology in a small geographical region with the hope that the money will come in without driving the businesses away. Here’s another spoiler alert: That plot twist doesn’t work out, either.

Do the math

Chicago’s mayor, Brandon Johnson, is looking at a $1 billion budget shortfall. He thinks the answer is an extra $128 million in taxes from cloud computing users. Classic political move—find something growing fast (like cloud computing) and slap a tax on it. But here’s what the politicians are missing: Cloud computing isn’t a Piaget watch or Balenciaga handbag. It’s the backbone of modern businesses. Also, cloud computing is everywhere and nowhere in particular. Companies can and will move their operations elsewhere, and when they leave, they will take all of their tax revenue with them, not just the cloud tax.

Chicago has been trying to position itself as the “Silicon Valley of the Midwest.” They even had some wins: Google bought a massive downtown building, and startups raised a record $19 billion in 2022. But here’s what’s happening now. Citadel: gone. Boeing: gone. Caterpillar: gone. Tyson Foods’ local offices: gone.

And that was before this new tax hike. As Chris Deutsch from Lofty Ventures said, “They’re just going to keep ratcheting up these taxes, and it’s going to hurt business and the entire tech community here.” No kidding.

Chicago is one of only a handful of US cities that taxes cloud computing. Denver and Washington, DC, are the only other major metros playing this game. It’s like they’re actively trying to push businesses away. My clients are aware of this issue and tell me they avoid building assets in those areas. These regions won’t even know what they’re missing because they don’t hear about businesses that decided to go elsewhere due to the cloud tax.

Companies won’t just eat the 11% premium to do business in Chicago. They will pack up their laptops and leave—or never show up in the first place.

The domino effect

This is where it gets interesting (and by interesting, I mean painful). When tech companies relocate or shut down, they take high-paying jobs with them. This triggers a cascade of negative economic effects in the community. Those employees cease paying local taxes and reduce their spending at local businesses, leading to decreased revenue for these establishments. As a result, the local businesses also pay less in taxes.

As businesses struggle and people potentially move away, infrastructure suffers as well. Property values begin to decline, which leads to a drop in property tax revenue. This initiates a downward economic spiral that impacts the entire community’s financial health and its capacity to maintain public services. Think schools, police and fire departments, roads, public transport, etc. Believe it or not, other metro areas in the United States offer comparable services and lifestyles without imposing an arbitrary cloud tax burden.

Chicago’s increased cloud computing tax will reshape the cloud industry landscape beyond the city’s borders. The immediate impact on cloud service providers will force them to develop region-specific pricing models while dealing with reduced market penetration and complex compliance issues.

Enterprise customers face difficult choices: absorb higher operational costs or relocate their workloads outside Chicago. For startups and small or midsize businesses, the situation is more dire, as increased costs could prove fatal to their growth prospects. The cloud tax creates an unsustainable competitive disadvantage against companies operating from tax-free regions.

The market will adapt through geographic shifts in cloud strategies, with organizations increasingly embracing multi-region approaches and edge computing solutions. Business models will evolve toward hybrid solutions to minimize tax exposure. Innovation will likely suffer as investment in Chicago’s cloud ecosystem diminishes, leading to a brain drain of technical talent to more business-friendly regions.

A cloud migration

Large providers may weather this storm, but small ones will struggle to remain competitive. The industry will respond with new technical solutions for geographic workload distribution and tax-efficient architectures. This shift will accelerate several key trends: multicloud, edge computing, and hybrid cloud solutions.

Although the cloud computing ecosystem may eventually emerge more resilient, the immediate effect will be increased costs and reduced innovation. This serves as a reminder that geographic boundaries are increasingly meaningless in cloud computing, and local constraints often trigger unintended consequences that reshape an entire industry.

I suspect other cities will think this is a great idea and adopt this type of tax, hoping for their piece of the cloud computing pie. They will suffer the same fate. Sadly, sometimes people need to touch the hot stove to learn a hard lesson. What bothers me most about this situation is that it won’t work, and the politicians won’t account for their mistake that will have hurt hundreds of businesses and thousands of people.

This short-sighted attempt at revenue generation will ultimately backfire. How can Chicago not follow the flow chart from cloud tax increase to decrease in businesses as they seek more tax-friendly environments? The city will lose both the additional cloud tax revenue and the broader economic benefits of a thriving tech ecosystem.

A cautionary tale

The exodus of companies, talent, and innovation will likely cost Chicago far more than the projected $128 million in revenue it might initially accrue. My prediction is that, sooner rather than later, this cloud tax will serve as a cautionary tale for other cities. In today’s digital economy, attempting to tax the foundations of modern business doesn’t fill budget gaps, it creates even bigger ones.

City leaders should approach the problem from the opposite direction to find workable, realistic answers. The overall solution is to attract new tech businesses to Chicago, not drive them away. More business translates into more tax revenue. I know it’s a simplistic answer to a difficult question, but sometimes simple is best.