2021 Federal Budget Provides More Details on Proposed Digital Services Tax

In its 2020 Fall Economic Statement, the Canadian government announced that it would be moving forward with a unilateral approach to the taxation of digital services. This announcement came after years of discussions regarding a multilateral agreement on cross-border digital taxation that have failed to produce any results to date. As part of the 2021 Federal Budget released on April 19^th, the government of Canada provided more information on its proposed digital services tax (DST), which it plans to implement if a multilateral solution is not reached this summer.

Snapshot of the Proposed DST

• Taxpayers Subject to DST: Any corporation, partnership or trust that meets (or that is a member of a business group that meets) two conditions: (1) global revenue of €750 million or more; and (2) “in-scope revenue” associated with Canadian users of more than $20 million in a particular calendar year.

• Rate and Base: 3% x (“in-scope revenue” associated with Canadian users – $20 million)

• In-Scope Revenue: Revenue associated with Canadian users from four online business models: (1) online marketplaces, (2) social media interfaces, (3) online advertising, and (4) sales/licenses of user data.

• Credit v. Deduction: DST would not be creditable against income tax but may be deductible against income based on general principles.

• Effective Date: January 1, 2022.

• Sunset: DST will continue in force until an acceptable multilateral approach comes into effect.

Application of Proposed DST to Relevant Business Models

Online Marketplaces

The proposed DST would apply to revenue from services provided through an online marketplace that helps match sellers of goods and services with potential buyers, whether or not the platform facilitates completion of the sale. Revenue in respect of optional “premium” services that enhance the basic intermediation function or affect its commercial terms would be included within the scope of the DST. However, Budget 2021 indicates that the DST would not be intended to apply to the sale of goods and services by a seller on its own account (including the sale, licensing or streaming of digital content), revenue in respect of the storage or shipping of tangible goods sold through an online marketplace, or the trading in financial instruments and commodities.

As noted above, the proposed DST is only applicable to in-scope revenue associated with Canadian users. Budget 2021 sets out revenue sourcing rules that are to be applied to determine whether the requisite Canadian user connection is met.

Specifically, revenue from an online marketplace would generally be sourced to the location of the user who interacts through the interface. For example, revenue associated with a particular transaction would generally be considered to be sourced 50:50 to the location of the buyer and seller. However, where the transaction is an arrangement for the performance of a tangible service in a particular location, the revenue would be wholly sourced to the location where the service is performed.

On the other hand, revenue from an online marketplace that is not associated with a particular transaction, for example subscription fees, and revenue from advertising goods or services listed for sale on the marketplace, would be sourced to the location of the interface user on a formulaic basis. The revenue associated with Canadian users would be equal to the total of the relevant revenue multiplied by the ratio of the number of marketplace transaction participants in Canada to the total number of transaction participants.

To determine revenue associated with a Canadian user, the location of the user of the online marketplace will need to be determined. Budget 2021 proposes that such determination would generally be based on the ordinary location, or ordinary place of business, of the user.[1]

Social Media Interfaces

The proposed DST would apply to revenue from services provided through an online interface that helps facilitate interaction between users or between users and user-generated content. However, the DST would not apply to an interface the sole purpose of which is to provide communication services, e.g.¸ telephone services.

Revenue from such an online interface would be sourced on a formulaic basis. That is, the revenue associated with Canadian users would be equal to the total of the relevant revenue multiplied by the ratio of the number of active users of the interface that are users in Canada to the total number of active users in all locations.

Similar to determining the location of a user in sourcing revenue from an online marketplace, Budget 2021 proposes that such a determination for a social media interface would generally be based on the ordinary location, or ordinary place of business, of the user.

Online Advertising

The proposed DST would apply to revenue from targeted online advertising services that are based on data gathered from users of an online interface. This would include revenue from online interfaces such as online marketplaces and social media platforms, as described above, as well as internet search engines (including preferential search listings), digital content streaming services and online communications services. It is proposed that the DST would apply to both the revenue earned by an interface operator from displaying the targeted ads as well as revenue earned from systems for facilitating online advertising placement by third parties.

Revenue from such an online advertising service would be sourced based on the location of the user who views, listens to, clicks on, or otherwise consumes the advertisement. As an exception to this general sourcing rule, revenue of an online marketplace from advertising goods or services listed for sale on the marketplace would be sourced using the formula applicable to non-transactional online marketplace fee revenue (outlined above).

Where under a contract advertising revenue associated with users in Canada and other jurisdictions is not separately identifiable, revenue associated with users in Canada would be considered to be equal to the total contract revenue multiplied by the ratio of the number of advertisement views by viewers in Canada to the total number of advertisement views by viewers in all locations

Similar to determining the location of a user for the other business models described above, Budget 2021 proposes that such a determination for online advertising would generally be based on the ordinary location, or ordinary place of business, of the user.  However, in cases of advertising based on the real-time location of a user, the real-time location of the user would be based on device geolocation.

User Data

The DST would also apply to revenue from the sale or licensing of data gathered from users of an online interface.

Budget 2021 proposes that revenue from the sale or licensing of user data would be sourced to the location of the user to whom the data relates. However, if the revenue relates to data in respect of both users in Canada and users in other locations, the revenue associated with users in Canada would be considered to be equal to the total of the relevant revenue multiplied by the ratio of the number of users from which the data was collected that are users in Canada to the total number of users.

Similar to determining the location of a user for the other business models described above, Budget 2021 proposes that such a determination would generally be based on the ordinary location, or ordinary place of business, of the user.  However, in cases of sales of data based on the real-time location of a user, the real-time location of the user would be based on device geolocation.

Administration and Other Information

It is proposed that businesses subject to DST would be required to file an annual return along with one annual payment for each reporting period. A group would be able to designate one entity to file the return and pay the DST liability, however, each entity in a group would be jointly and severally liable for DST payable by any other group member.

As of now no draft legislation has been put forth regarding the DST, and it is anticipated that this will be released in the summer of 2021. For the time being, the government is welcoming feedback and interested parties may send written representations to the Department of Finance Canada by June 18, 2021.

[1]       The determination of the ordinary location, or ordinary place of business, of a user would be based on information generally available to the digital service provider. This would include such indicators as recurring data on device geolocation or internet protocol address, billing address, delivery address (where relevant), and telephone area code.