John Murphy: A unilateral digital services tax would be a mistake for Canada

Thursday, December 12, 2019 - 10:00am
By John G. Murphy, Senior Vice President for International Policy

Federal Finance Minister Bill Morneau said this week that the Liberal minority government plans to implement a unilateral digital services tax (DST). This would be a mistake with broad ramifications for Canada.

The digitalization of the world economy is proceeding at a remarkable clip, and it presents undeniable public-policy challenges, including in taxation. The flow of data across borders has risen 150-fold since 2005, and digital commerce has in turn become a powerful driver of growth.

In fact, the digital economy is growing four times faster than the non-digital economy, though it’s increasingly hard to draw a line between the two. More than half of all services exports can now be delivered to foreign customers digitally, which is one reason why services trade is expanding 60 per cent more rapidly than trade in goods.

In that context, the world’s leading economies are engaged in negotiations to forge a multilateral, consensus-based solution to the tax challenges arising from the digitalization of the economy at the Organization for Economic Co-operation and Development (OECD). These talks are advancing, and they have promise.

Laudably, these negotiations are taking a comprehensive view that rejects efforts to “ring fence” the digital economy. When nearly every enterprise is going digital, a hurried, narrow, unilateral approach to taxing digital services is bound to backfire.

In Canada, however, proposals emerged during the election campaign to adopt just such a unilateral approach. The Canadian proposal is an exact copy of France’s DST, which has proven highly problematic. It hits selected digital services with a 3-per-cent income tax that appears to violate provisions in tax treaties designed to avoid double taxation.

The French DST that Canada has chosen as a model is discriminatory. Notably, its thresholds are set at a level that captures large U.S. technology companies while sparing French industry almost entirely (something France’s Finance Minister has crowed about). In addition, the French DST targets a selection of digital services in which U.S. firms are market leaders but excludes digital services where French firms are significant actors. This kind of discrimination clearly violates obligations France accepted in the World Trade Organization (WTO) agreements.

Canada has also accepted obligations to avoid this kind of discrimination in WTO agreements, the North American free-trade agreement, and the pending update to NAFTA known as the United States-Mexico-Canada Agreement.

Canada’s move comes at a sensitive moment. While partisan disagreement is rife in Washington today, Democrats and Republicans are marching in lock step in viewing Canada’s proposed DST as an ill-timed and unhelpful action that will make reaching agreement at the OECD more difficult.

U.S. companies have invested billions of dollars in Canada, employ millions of Canadians, and engage in mutually beneficial commercial relationships with citizens from the Atlantic to the Pacific. Implementing a unilateral tax that almost exclusively targets U.S. companies will hurt, not help these ties.

Above all, imposing a unilateral DST now will inject uncertainty into the multilateral efforts at the OECD to address the very real tax challenges posed by digitalization of the economy. At a time when unilateralism is on the march, we strongly urge Canada to uphold its historic, principled commitment to multilateralism by halting its DST proposal and doubling down on the OECD negotiations.