Canada's government is considering new tax rules to level the playing field for e-commerce vendors that complain foreign giants such as Amazon.com Inc., Apple Inc. and Netflix Inc. have an unfair edge when selling digital products.
A few short paragraphs in the 2014 federal budget invited input on "ensuring the effective collection of sales tax on e-commerce sales to Canadians by foreign-based vendors," and whether to enforce mandatory collection, as the European Union and Norway already have.
The consultation has received little public attention, even though it may decide whether Canadian buyers pay tax on millions of digital purchases each year. Consumers could end up paying more for video streaming on Netflix or music from iTunes if foreign-based companies lose the right to sell digital products tax-free in Canada. The potential new rules hinge on issues of competitiveness as well as political sensitivities, and could bring the government tens of millions of dollars in new revenue each year.
Major digital players in Canada and the United States are taking notice. Rogers Communications Inc. is pressing for new regulations on its foreign competitors. And last month, lawyers at Baker & McKenzie LLP registered to lobby the federal government on this issue on behalf of Amazon.com, Netflix and Facebook Inc.
Retail e-commerce sales in Canada totalled $21.6-billion in 2013, up 17.7 per cent from a year earlier, and are projected to double by 2018, according to eMarketer. But a wide swath of those purchases, collectively dubbed "digital supplies," fall in a sales-tax grey area when sold to Canadians from abroad – including popular purchases such as streaming or downloading music, movies and TV shows, e-books, mobile apps, video games and software, online advertising and cloud computing.
As it stands, businesses with no physical presence in Canada are deemed not to be "carrying on business" in the country, and aren't required to collect sales tax when they sell digital supplies to Canadians – which creates a 5- to 15-per-cent price gap compared with offerings from domestic retailers. Netflix, for example, sells Canadian subscriptions to its video-streaming service but collects no tax on the monthly charges.
A large company might also decide some products are taxable but others aren't. When a Canadian-based customer buys digital music or movies from iTunes, they pay no tax because those products are distributed by Apple, incorporated in the U.S. When the same customer buys e-books or apps from the company, however, those are distributed by Apple Canada Inc., incorporated years later north of the border, and sales tax is added to the price. By contrast, Amazon.com charges no tax on its e-book sales.
In theory, when foreign companies don't charge sales tax, it is up to each consumer to self-report digital purchases from abroad and pay HST or GST, though virtually no one does.
"These digital supplies are already taxable," Rogers writes in a submission to government, decrying "the competitive disadvantage in the digital economy for Canadian domestic suppliers which must charge GST/HST to Canadian consumers."Rogers, for example, recently launched a streaming service called Shomi, which costs $8.99 a month, plus tax.
The Organization for Economic Co-operation and Development agrees the best solution is to compel companies to register and collect sales taxes in the countries where they make sales. Such measures are part of a larger OECD tax plan presented to G20 finance ministers in the summer of 2013, aimed at combatting tax-base erosion and profit-shifting.
In Canada, the notion of taxing digital sales from abroad gained traction with the government in the fall of 2013, under then-finance minister Jim Flaherty. But it burst onto the European Union's agenda more than a decade earlier over fears that companies might move offshore to stay competitive.
Leading the European hue and cry was Freeserve, a major provider of dial-up Internet service in the early 2000s. The company, since swallowed up in a merger, had some two million British subscribers but faced competition from American-based AOL Inc.
"They were the kinds of guys who made noise publicly and pulled ears of politicians and said, if you don't do something about [the inequity between domestic and foreign firms], we will pack up and leave," said Arthur Kerrigan, a former team leader on this issue at the European Commission who now consults for KPMG International in Ireland.
The fear, then and now, has been that the burden of handling cross-border taxes might prompt some smaller businesses to decide that selling to a given country is no longer worth the effort.
Nevertheless, the EU changed its legislation in 2003, requiring firms to register and collect taxes on European sales, setting a template for the global digital economy. Large companies have set up systems to comply, which might be tweaked for use in Canada. And the new laws pulled in nearly €800-million ($1.12-billion) in tax revenue across Europe in the first year – a figure that has since grown in step with e-commerce.
Canada's government is reviewing 16 submissions from "a wide variety of organizations," only four of which agreed to make their input public, a Department of Finance spokesman said in an e-mail.
"Finance officials are continuing to examine the issue, collecting data and views from international partners, and exploring options. It would be premature to comment on possible revenue gains," he said.
But experts project the rule changes under consideration, if adopted, could funnel tens of millions of dollars each year to various levels of government. The Alliance of Canadian Cinema, Television and Radio Artists (ACTRA) estimates in a submission that on Netflix sales alone, the federal government is foregoing $11.1-million in GST under current rules, while the provinces are missing out on another $15.6-million in sales tax.
Baker & Mackenzie lawyer Randall Schwartz said it is too soon to comment on the positions of his influential American clients. Spokespeople for Facebook, Netflix and Apple declined to comment. Amazon.com did not return requests for comment.
The Chartered Professional Accountants of Canada is also in favour of making it mandatory for foreign firms to tax digital products, favouring consistency among international regimes.
"The real risk for business is if countries go off in different directions," said John Bain, chair of CPA Canada's commodity tax committee and a partner at KPMG LLP. "It becomes very complicated, and then the risk goes up that you're going to make errors or be subject to penalties."
Still, Mr. Bain recognizes that the economic benefits of such a move could run up against the political realities of an election year. "Any rule is going to start adding [tax] to consumers' purchases," he said. "It's a bit of a political tightrope [federal politicians] would have to walk."