HM Treasury proposes to place a 2% tax on revenues derived from British users’ creation of value for digital services businesses, according to officials from HM Treasury in a recent presentation about the proposed digital services tax.
The UK government considers that UK users create value for digital businesses through participation and engagement, which in their view is not currently captured by the international taxing framework. To address this gap, the proposed digital services tax is designed to tax the UK revenue associated with social media networks, search engines, and on-line marketplaces in which there is UK user participation.
While certain businesses and activities may immediately come to mind when considering the scope of the proposed digital services tax, HM Treasury officials have acknowledged that there will be boundary issues that both businesses and Treasury will need to consider. The officials noted that businesses such as those engaged in financial or payment services are intended to be outside the scope of the digital services tax. However, the proposed rules are broadly drafted, and taxpayers will have to wait to find out what businesses are definitively excluded. The officials were also asked whether the legislation could contain an exemption list that clearly identified other business that may be out of “scope” (e.g., online gaming), but they were not inclined to adopt this suggestion, voicing concern that this may create more ambiguity for businesses.
All told, HM Treasury expects the digital services tax would apply to a relatively small number of businesses. The exact number of affected companies is not known; however, based on publicly available information, it is reasonable to expect the number to be in excess of 30 entities subject to the conclusion of the consultation and drafting of the legislation.
For some businesses, determining their in-scope revenue may be clear. The Treasury officials acknowledged that businesses with multiple business activities that are not segmented into product lines or with businesses that do not track in-scope revenue streams for management reporting purposes may face challenges in quantifying in-scope revenues.
The officials distinguished the UK approach as focusing on “users” and not “advertising”—whereas France and Germany have proposed an advertising focus to the European Union. In HM Treasury’s view, while an advertising-focused tax may be easier to administer, user participation is viewed as being a key value driver for digital businesses, and this would be addressed via an appropriately targeted digital services tax. Accordingly, the revenue stemming from in-scope activities—regardless of whether advertising revenue, subscription revenue, or the like—would be subject to the digital services tax. The legislation is expected to have an anti-abuse clause to prevent companies from changing the character of their revenues such as an e-commerce site moving from commission-based to buy-sell model solely to avoid the tax without changing to the substance of a real buy-sell model (i.e., flash title).
The proposed digital services tax would be effective for fiscal years beginning on or after 1 April 2020, and would apply to businesses that generate greater than £500 million in global revenues from in-scope activities, and derive more than £25 million in revenues from in-scope business activities linked to the participation of UK users. The first £25 million of the UK revenues would be exempt from the digital services tax. The thresholds and allowance would apply on a group-wide basis, not on a per business activity or per company basis. A safe harbor for businesses with very low profit margins would allow for an alternative calculation.
Concerning the proposed digital services tax’s compatibility with the UK’s treaty obligations, Treasury officials note that due consideration had been given to that topic, with the conclusion that the digital services tax would be compliant with treaty obligations. There also has been consideration as to whether the proposed digital services tax could be creditable against any UK corporate tax liability, but the belief is that such a credit may be seen as discriminatory under EU law (whether this concern would continue after Brexit is not known).
As drafted, officials believe the proposed digital services tax would not discriminate based on a residency of the business, as it applies to all in-scope activities in the UK.
The digital services tax is proposed as an interim tax until a multilateral solution that is acceptable to the UK is adopted. A review clause (that differs from “sunset clauses” sometimes found in U.S. tax legislation) would allow the UK to more closely review and monitor the international discussions on this issue.
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