The city of Knoxville is leading an effort in Tennessee to use the judicial system to try to force video streaming providers Netflix and Hulu to pay local governments the same operational fees assessed to cable television firms, court records show.
If the city's proposed class-action lawsuit is successful, it could affect both the pricing and availability of streaming services in the state.
The city's lawsuit is a carbon copy of class-action litigation being filed by private law firms on behalf of local governments in a dozen other states, including Ohio, Kansas, Texas, Illinois and California, against the two streaming giants.
The growing popularity of video streaming versus traditional cable television – dubbed "cord cutting" in pop culture vernacular – is driving those legal battles as local governments face the loss of revenue from cable franchise fees if the trend continues.
For decades, cable providers have paid state and local governments millions of dollars annually in "franchise fees" for the right to use public rights-of-way to erect infrastructure. Video streaming providers, which use existing broadband internet wireline facilities, aren't required to pay those fees.
The city of Knoxville purports in its lawsuit to represent the interests of 430 municipalities in Tennessee and is asking U.S. District Judge Clifton Corker to give the litigation class-action status.
Corker, though, has hit the brakes on the federal litigation. He says the key question in the case – whether Tennessee law should be reinterpreted to require video streaming services to pay cable franchise fees – is best answered by the Tennessee Supreme Court.
"The court notes that Tennessee state courts have a strong interest in interpreting state legislative enactments and the legislature has a strong interest in establishing public policy within the state," Corker wrote.
"There is no precedent in the decisions of the Supreme Court of Tennessee or any other Tennessee state court on the issue," Corker noted. "Considering the lack of available guidance and the potential statewide effect this case will have, the court finds that certification [to the state Supreme Court] is appropriate."
The state's high court accepted the certification order earlier this year and will hear arguments in the case in May.
The city contends in its lawsuit that Netflix and Hulu use broadband internet connections to deliver digital content to subscribers and should be assessed the same fees required of cable and broadcast television companies under Tennessee's Competitive Cable and Video Service Act.
"These broadband internet connections rely upon wireline facilities located in whole or in part in the public rights-of-way to deliver internet service to subscribers," the lawsuit states. "That means [Netflix and Hulu] operate and provide their video service to subscribers through wireline facilities located, at least in part, in the public right-of-way."
Netflix and Hulu – ranked first and fifth, respectively, in the number of paid streaming service subscribers in the U.S. - contend Knoxville's lawsuit and similar litigation in other states are nothing more than baseless money grabs.
"Although this case is ostensibly about whether Netflix is obligated to pay a franchise fee to compensate Tennessee cities for the use of public rights-of-way, in reality it is a back-door attempt, in violation of state and federal law, to tax digital video content provided over the internet," Netflix attorney Tyler Chastain wrote in a motion to dismiss the city's case.
Knoxville Law Director Charles Swanson said the city was approached by the out-of-state law firms pursuing similar litigation in other states.
"We got contacted by outside lawyers and they said, 'We've looked at your statutes and we would like to suggest to you that you are not getting all the revenue you're owed."
Swanson said he sought advice on the issue from local attorneys, who agreed the state's cable franchise law might well be interpreted to include video streaming services.
"We felt like what [the out-of-state law firms] were saying is true," Swanson said. "We felt obligated to our taxpayers to pursue this."
Swanson said taxpayers are not funding the litigation. If the city wins the legal fight, any fees owed the out-of-state lawyers will come from proceeds of the litigation.
"Taxpayers are not on the hook at all," he said.
The town of Creve Coeur, Missouri, was the first in the nation to turn to the courts to try to force Netflix and Hulu to pay cable franchise fees, filing suit in 2018. Knoxville filed its suit in December 2020 - one year after the Tennessee Advisory Commission on Governmental Relations declined to recommend changes to the state's cable franchise fee system.
"Changes to the state's tax and fee structure or its cable franchising laws are unnecessary at this time," the commission report stated.
The commission report says there are no signs -yet - that cord-cutting is slicing into the cable franchise fee revenue stream in Tennessee.
"In Tennessee, cable franchise fees have continued to increase on a statewide basis, totaling approximately $53 million in fiscal year 2016-17," the report stated.
For most local governments, the franchise fees represent a drop in the financial bucket, accounting for less than 2% of their total annual revenue. But for smaller cities, those franchise fees can account for as much as 10 percent of total revenue and, in some cases, are used to fund vital government services such as education and policing.
The commission report recommended those smaller cities wean themselves from dependence on cable franchise fees now - while cable television subscriptions remain on the rise in Tennessee.
"Although [cable franchise fees] have continued to increase on a statewide basis, the rate of increase appears to be slowing in recent years," the report stated. "The trend toward cord-cutting will likely continue Local governments should consider no longer using this revenue to fund [vital] government services."
Satellite internet providers are also exempt from paying cable franchise fees in Tennessee but are not targeted in the Knoxville litigation. It's not clear why. Satellite providers Dish Network Corp. and DirecTV Inc. have filed amicus briefs with the Tennessee Supreme Court in support of Netflix and Hulu.
All three types of digital content provider - cable, satellite and streaming - are covered by the sales tax levy in Tennessee.
"In fiscal year 2017-18, total sales tax revenue from these services was approximately $188 million - $157 million in state sales tax and $31 million in local sales tax," the commission report stated.
Video streaming services accounted for more than $26 million of that total, with just over $7 million going into the coffers of local governments, according to the report.
Read more at tennesseelookout.com.