Enacting Digital Services Tax More Than Just a Waiting Game for Canada

Leading expert questions effectiveness of proposed corporate revenue tax

The logos of mobile apps Facebook and Google are displayed on a tablet in Lille, France, on Oct. 1, 2019. The two American internet giants represent a quandary for the global tax man. Denis Charlet/AFP via Getty Images

News Analysis

Trying to impose a new tax is a balancing act. Attempting to appropriately tax large foreign multinationals selling digital products all over the world is even more difficult.

The push to tax digital services has been called the largest global economic battle of 2020 and was a hot topic of discussion among the business and political elite who recently gathered in Davos, Switzerland.

The key adversaries, the United States and France, have taken a pause over the French imposing a 3 percent revenue tax last year on American internet giants like Facebook, Google, and Amazon. Taxing revenue aims to nab companies like Amazon that show little to no profits due to reinvesting in their operations.

At the crux of the matter is the October 2019 proposal by the Organisation for Economic Co-operation and Development (OECD), calling for a minimum corporate income tax that would ensure that “large and highly profitable” multinational digital companies “pay tax wherever they have significant consumer-facing activities and generate their profits.”

But imposing a digital services tax on corporate revenue has a poor track record of hitting the mark, says Jack Mintz, President’s Fellow at the University of Calgary’s School of Public Policy.

Often, it’s not the company that ultimately pays the tax. Typically, the cost gets shifted onto consumers, business partners, shareholders, etc.

“We need a global solution in this year 2020. … We want to do it at a global level. … We will align our digital taxation system to the digital era,” said EU Commissioner for the Economy and former Italian Prime Minister Paolo Gentiloni in an interview with Bloomberg in Davos.

The 36 OECD countries aim to agree on how to tax digital companies by mid-2020.

The debate over the digital services tax centres on which country has the right to tax the income. Companies naturally want to avoid double-taxation and each country wants to capture its full share of taxes.

The American standpoint is that the intellectual property and digital products are created in the United States, and the headquarters are also there, so the profits are its to tax.

The Europeans say its citizens are giving income to the American internet giants and so the European countries should be entitled to tax them.

That is a new concept in corporate taxation, according to Mintz, since taxation usually takes place where production occurs and a corporate tax is not meant to be a tax based on consumption.

Another point of contention is taxing revenue—instead of profits—which the Montreal Economic Institute (MEI) argues can be highly punitive.

Canada Waits and Watches

In their election campaign, the Liberals promised to tax the revenue of the internet giants and achieve the standard set by the OECD.

“My view is they [Canada] should wait for the OECD and the Americans and the Europeans to come to an agreement,” Mintz said in an interview. “It’s a dispute. There really is an argument whether it’s appropriate to put on this tax or not.”

Various ministers including heritage, trade, small business, and finance have a hand in this file. Ottawa awaits a multilateral approach via the OECD, but not all European countries are doing so.

What’s at stake for Canada is to maintain a competitive business environment, not actually lose tax revenue on a net basis, and avoid another tariff war with the United States.

A Jan. 22 study from the MEI titled “Taxing the Tech Giants—Why Canada Should Not Follow the French Example” says that if the 3 percent revenue tax on digital services had been applied on all the activities of the 60 large companies making up the TSX 60 on the Toronto Stock Exchange over the past 10 years, it would have wiped out the profits for 22 percent of them.

If the revenue tax is imposed, MEI argues Canadian consumers and the economy will end up paying it.

“In France, where a similar tax was imposed in 2019, a study showed that just 5 percent of the total burden related to the new tax will be shouldered by the big digital companies. More than half (55 percent) will be paid by consumers, and 40 percent by the companies using digital platforms,” Peter St. Onge, the MEI study’s co-author, said in a press release.

MEI says the issue for Canada is to maintain the competitiveness of its economy and not try and tax to offset the supposed tax advantages that certain companies may be achieving.

The public policy think tank suggests that Ottawa needs to see if additional receipts from taxing revenues of foreign firms in Canada will offset the reduction in receipts from Canadian companies operating abroad.

Inseparable from the current situation is the phenomenon that brought about this dynamic where American companies like Google, Apple, Facebook, and Amazon have developed quasi-monopolistic market domination. They have thus become easy targets for the Europeans and Canadians, who have failed to generate similar market champions.

The United States has indicated it would slap tariffs on French goods in response to the digital services tax, and Mintz says it would be “very wrong” for Canada to forge ahead and invite U.S. retaliation.

Two Distinct Taxes

The controversial digital services tax on a corporation’s revenue is different from the value-added tax (GST/HST) on digital subscription services. The latter is not controversial at all and Quebec is already levying it. The idea is to create a level playing field between Canadian and foreign digital content subscription services such as Crave and Netflix.

A direct consumption tax like the GST and HST on foreign subscription services, for example, would not impact foreign investment in Canada—which the tax on revenue might, possibly to the extent it is borne by the companies.

“I think that would be pretty acceptable even to the Americans; they wouldn’t be able to object to that,” Mintz said.

They wouldn’t object to it because it is not taxing revenue, which would be viewed as an invasion of their corporate tax base, he says.