UK and Malaysia announced last week that the governments were prepared to join a growing group of countries to collect a digital tax.
But what is the digital tax?
What does it mean for the global economy?
The digital economy is growing exceedingly quick and has dramatically changed all aspects of society.
The way we interact, the economic and business landscape, the skills needed to land a good job, and even political decision-making – facets of life that once reliant on an in-person interaction has now moved online.
So, what is the digital economy?
It′s an economic activity that results from billions of everyday online connections among people, businesses, devices, data, and processes.
There are many different types of businesses make up the digital economy, including e-commerce, app stores, online advertising, online payment services, cloud computing, and the likes.
As the economy becomes increasingly digitised, the tax system will need to reflect that change. Therefore, we see more and more countries joining the broad international trend towards collecting a digital tax.
The Rise of Digital Tax
Digital tax isn’t new, as it has been adopted in many other countries as well, such as the European Commission (EU) countries, Turkey, Japan, South Korea, and Taiwan. Each country has their own way of getting sellers outside of their country to pay the tax.
Each country has their own way of getting sellers outside of their country to pay the tax.
Did you know? The tax comes in different names or terms in different countries, such as Value Added Tax (VAT), goods and services tax (GST), consumption tax, sales tax or use tax.
Last week, the UK government announced a new “digital services” tax of 2% that it plans to start levying on the UK revenues of tech giants like Amazon, Google, and Apple. It will be based on the money they make on digital services like advertising and streaming entertainment. This new tax is due to come into effect in April 2020.
Other countries are also looking to impose a similar tax. Under a proposal in March this year, the European Union (EU) plans to charge a 3% levy on the digital turnover of large firms such as Google and Facebook.
Meanwhile, Malaysia Finance Minister Lim Guan Eng has announced the
implementation of service tax on foreign digital services – including software, music, video, and digital advertising. It will come into effect on Jan 1, 2020.
Why are countries pushing digital taxes?
A reason that countries push forward on digital taxes is the tax revenue that companies such as Google and Apple should be paying to countries aren’t being paid.
According to the existing international tax rules, you need a certain level of physical presence in a foreign country before you can make any significant or stable revenues. Once you have the physical presence, you have to pay tax in the foreign country.
Once you have the physical presence, you have to pay tax in the foreign country.
However, digital businesses can escape from paying tax. Why?
In the digital economy, companies can make money without a significant physical presence, and it usually means no, or very little tax paid to governments.
Another reason is digital tax can help to ensure level playing field.
Local businesses are always struggling with the unfair competition from the global digital businesses that often avoid paying taxes.
According to the World Bank report, 72% of people on Facebook in Malaysia are currently linked to a small business outside the country. At this moment, those businesses are not required to pay sales taxes here, which gives them an edge over domestic suppliers.
However, with the digital tax, foreign businesses can no longer avoid paying tax.
Like other businesses in Malaysia, digital entrepreneurs will have to account for sales taxes on the goods and services they provide to their customers.
Increasingly, Malaysian businesses selling online to foreign customers will find they have to account for taxes on consumption levied in the countries where their customers are based.
Tax Challenges of the Digital Economy
Although we see the rise of countries to adopt the digital tax, the difficult part is how to design the tax and who will pay it.
Since current international tax rules are still relying on the old brick-and-mortar concept of a permanent establishment to assign tax jurisdiction, the digital economy makes it possible to operate a thriving cross-border business virtually tax-free.
Hence, this is one of the major reasons tax authorities worry about the digital economy. One of the key concerns is how best to tax the digital economy, whether to tweak the existing rules or to create a new set of rules.
Another challenge is that corporate value is increasingly concentrated in intangible assets, such as patents and copyrights on software and digital content. But such assets are easily transferred to tax havens to
For instance, the US-based tech giants such as Google, Apple, Facebook, and Amazon.com, their entire business models are predicated on this sort of international tax avoidance.
How can they do that?
They rely on today’s digital technology, borderless economy, and outdated tax rules to avoid taxes in the jurisdictions where they do business (countries of consumption) and shift profits to low-tax countries.