While privacy and e-commerce legislation have topped the Canadian government's Internet and e-commerce law agenda in recent years, one critical e-commerce issue has received little attention: tax policy.
No longer. Late last year Ottawa released a major report on the application of GST to e-commerce that is bound to create considerable discussion and controversy.
Though no one likes paying taxes — either off-line or on-line — an equitable e-commerce tax policy is essential. For on-line businesses, a clear and certain policy is needed for effective business planning. For off-line businesses, a fair e-commerce tax policy is a matter of survival. If consumers can purchase an item on-line tax-free, but are required to pay tax for the identical item purchased off-line, local bricks-and-mortar retailers are at a distinct disadvantage. Such a scenario becomes doubly troubling when the on-line retailer is located outside the country — the Canadian retailer suffers and Canadian tax dollars disappear.
Both the United States and the European Union have recognized the importance of the tax issue, and have been developing policies for several years. The U.S. Congress enacted an Internet tax moratorium in 1998 that blocked the creation of new Internet taxes. That approach has met with growing criticism in recent months from state and local governments who fear the loss of tax revenue.
The EU, meanwhile, announced a policy that would require businesses located outside its member states to collect the applicable value added tax for digital products sold to consumers within the union.
Since 1998, Canadian policy has been largely confined to studying the issue. Several expert groups have been established to assess e-commerce tax policy and report back to the government.
"GST and Electronic Commerce" is the first of those reports. It is an appropriate title, since the report adopts a tax perspective on e-commerce, rather than an e-commerce perspective on tax. The difference is important, since its results are conservative, lacking the dynamism of the best of e-commerce.
The report addresses four key issues: what it means to "carry on business" in Canada in the context of e-commerce; whether providing digital products on-line constitutes a good or a service; when an on-line entity can be said to have a "permanent establishment" in Canada; and how Canadian tax authorities can deal with the technical challenges of on-line tax collection.
The carry-on-business issue is probably the most important one addressed in the report, since businesses that can be said to be carrying on business in Canada — even if they are physically located outside the country — must register to collect GST. If a business is not registered to collect GST, the customer must voluntarily notify the taxman and pay the applicable GST — an event that even the government admits rarely occurs.
The report considers a range of possible approaches to the carry-on issue, and eventually settles on a "place of operation" definition. It calls for the examination of a variety of factors, such as where the contract is made, where the profit arises, where the goods are manufactured, where the payment is made, and where the bank accounts are maintained. Unlike the off-line carry-on business definition, which focuses primarily on contract and profit location, this report recommends equal consideration of the variety of factors.
In selecting the place of operation approach, the report rejects the Web site interactivity test, citing a "lack of jurisprudence." This seems odd, since the test has been used by courts in Canada and the United States in dozens of cases to determine when it is appropriate to assert jurisdiction over a dispute with an on-line component.
Internet jurisdiction case law — which has shifted toward considering whether the site specifically targeted a particular location, along with the local effects of the site — calls for specific e-commerce analysis that this report puzzlingly ignores.
Domain name (Does the site use a dot-ca domain?), currency (Does the site allow for payment in Canadian dollars?), and Web site content (Does the site target the Canadian market with Canadian advertising or by using technologies that identify Canadian visitors?) would all appear to be highly relevant when considering whether an e-commerce business is carrying on business in Canada, yet none of these factors are discussed in the report.
Three years was apparently not long enough to reach consensus on the characterization of digital products as either goods or services. The distinction is a crucial one — whether a digital product such as a subscription to an on-line music service or access to an on-line database constitutes a good or service has international trade law ramifications, and affects how the applicable GST is administered.
The report optimistically notes that consensus was reached on how to characterize the majority of 28 different types of e-commerce transactions. Unfortunately, no consensus was reached on the most relevant and important on-line activities, such as access to interactive Web sites, Webcasting, and data retrieval from an on-line database.
Since tax officials are accepting comments on the report until March 1st, there is still potential for change to the final policy. With the United States and EU charging ahead with their on-line tax policies, Canada can ill-afford to be left behind.