France's digital services tax is a cautionary tale for Canada

France's DST blunder has given Canada a costless preview of what is in store for us should we choose to go down the same foolish path.

Canadian Taxpayers Federation -- Aaron Wudrick, Federal Director

Canadian News, Opinion | Comments | December 5, 2019

France's digital services tax is a cautionary tale for Canada

While there's much to admire about France — including its food, culture and language — one area in which Canadian policy-makers would do well to steer clear of French inspiration is tax policy.

This is the country, after all, that famously had to abandon its 75 percent "supertax" on the rich after wealthy residents (predictably) began to flee the country, and that, to this day, still features the highest taxes of any wealthy nation.

Unfortunately, another French taxation policy seems to be catching on in Canada: a 3 percent digital services tax (DST) to be imposed on foreign tech companies.

Taxing revenue rather than income, the DST effectively functions as a tariff by discriminating between domestic and foreign firms

For governments looking to find new revenue, it's easy to see the political appeal of such a tax. Tax hikes are unpopular precisely because people don't like paying them. But a tax purportedly paid by someone else — in this case, profitable foreign companies — faces no such hostility. The Liberals included a DST in their election platform. In a rare show of bipartisanship, the Conservatives followed suit by proposing to implement exactly the same tax.

However, what might make for good politics doesn't always make for sound policy, and proceeding with a French-style DST could end up being far more trouble than its worth for Canada.

Start first with the trade implications. The United States Trade Representative's scathing report on France's DST concluded that by taxing revenue (rather than income) and applying it retroactively, the tax runs afoul of prevailing international tax policy. The report also finds that the French DST unfairly targets American companies. That's a lot of problems for one tax.

First, by taxing revenue rather than income, the DST effectively functions as a tariff by discriminating between domestic and foreign firms: the foreign companies must pay a tax on gross revenues at the point when their services hit an IP address within the tax-imposing country's borders. (Taxing revenue rather than income is also highly punitive to low-margin businesses and strongly discourages investment, which is precisely why almost no jurisdiction levies taxes on revenue.)

Retroactive application of the DST creates a compliance nightmare for affected businesses

Second, the retroactive application of the DST creates a compliance nightmare for affected businesses, who are forced to devote resources to trying to estimate past revenues for a period when they were not required to track them.

Finally, the scope of the French DST makes it obvious that the real targets of the tax are nearly exclusively American companies. French officials and parliamentarians went so far as to openly call it the "GAFA tax," in reference to Google, Apple, Facebook and Amazon.

In response, the US said it would be considering retaliatory tariffs of up to 100 percent on French products, to the tune of $2.4 billion — and announced that it was looking at investigating similar taxes imposed by Austria, Italy and Turkey.

While retaliatory American tariffs would be unpleasant for France, they would be far more damaging for Canada if we bring in a DST, given our heavy trade reliance on the United States — witness, for example, the economic disruption caused by recent Trump-ordered tariffs on steel and lumber.

France's DST blunder has given Canada a costless preview of what is in store for us should we choose to go down the same foolish path

Perhaps most worrying is the impact a Canadian DST is likely to have on the ratification of the United States-Mexico-Canada Agreement, which is starting to face growing pre-election headwinds in Washington. Surely the last thing Canada should be doing while trying to persuade its chief trading partner to sign a crucial trade deal is implementing a policy that has already been officially slammed as a trade violation by the Trump administration, and which is almost certain to be construed as a poke in the eye by the mercurial president.

Taking such a risk for a policy projected to raise just over half a billion dollars seems foolish — especially considering the French experience, which suggests that rather than just ponying up millions in new taxes, affected companies will pass on higher costs to customers. For example, when faced with the 3 percent DST in France, Amazon simply increased its commission charge to French vendors by the same amount. Far from shaking down rich foreign tech companies, the French DST is ultimately being paid by French businesses and consumers.

Hopefully, Canadian officials are paying close attention. France's DST blunder has given Canada a costless preview of what is in store for us should we choose to go down the same foolish path. Given the DST's poor design, the broader trade relationship at stake and the evidence suggesting such a tax will just end up being paid by Canadians anyway, the Trudeau government needs to run, not walk, away from any plans for a DST.

(This column originally appeared at Policy Options)

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