INSIGHT: Digital Services—Tax Implications (Part 3)

Governments in numerous countries are looking at the introduction of a tax on digital services as a means of ensuring fair taxation of new business models. At the same time, the European Commission’s objective is a unilateral reform of the foundations of current tax legislation to address the same challenge.

Part 3 of this Insight looks at measures being introduced and implemented in individual jurisdictions worldwide.

Israel

The Israeli Tax Authority released their official circular, on April 11, 2016, on internet activity of foreign companies in Israel. According to the Israeli tax authority circular, foreign corporations providing internet services to Israeli consumers may have 17 percent value-added tax (“VAT”) obligations in Israel, under the presumption that the internet services are part of an Israeli business activity.

The law applies to a digital service provided by a foreign resident to an Israeli resident who is not a business but a private consumer. A nonresident service provider, who does not carry on business in Israel, will be liable to pay VAT on online services provided to consumers in Israel. The registration threshold is quite low, making almost all online service providers providing services outside of Israel required to obtain VAT registration.

“Digital service” is defined as any of the following services:

• telecommunication services—services with respect to information transported via lines, optic fibers, radio, and electromagnetic systems, including various telecommunication services, such as Voice IP, fax, and internet access services;
• television or radio broadcast services;
• electronic services—services, including sales of intangible goods, provided through the internet or other network, including software sales or upgrades, entertainment products, gaming, music, digital books, gambling, TV programs, movies, transfer of rights to sell intangible goods or services in an online store in exchange for consideration, and intermediating between buyers and service providers.

South Africa

The South African Revenue Service unveiled South Africa’s tax on digital services on June 1, 2014 and it became effective from July 1, 2014. The VAT rules in South Africa require nonresident suppliers of certain “electronic services” to South African residents (or if payment originates from South Africa) to register for VAT. The current VAT rate in South Africa is 15 percent, effective from April 1, 2018 onward. South Africa includes the following services in its definition of e-services:

• online gaming and games of chance;
• internet-based auctions;
• online journals, blogs, newspapers, social media, webcasts, apps and web services;
• online media, music, e-books and images;
• education, excluding those services provided and regulated by the education authorities.

The place of supply rules for South African e-services are based on the whether the recipient is resident in South Africa, and if the consideration is settled (bank account or credit card) from the country. Foreign providers must VAT register if their South African income exceeds 50,000 South African rand ($3,525) per annum.

Businesses seeking a registration are not required to appoint a fiscal representative—which is required in most other foreign registrations. Similarly, with a local bank account—this is not required for e-service providers.

The National Treasury published amended regulations for electronic services, effective from April 1, 2019 onward. Key amendments are:

• the previous list of specific services that comprised electronic services was discarded and replaced with a broad definition of electronic services, including “any services supplied by means of an electronic agent, electronic communication or the Internet for any consideration”;
• there is some relief for business-to-business transactions that take the form of intra-group transactions—where the South African company is a wholly owned subsidiary of the foreign company (the foreign service provider), these transactions are excluded from the scope of electronic services;
• the activities of an “intermediary” are now included in the ambit of an “enterprise”; and
• the registration threshold for suppliers of electronic services increased to 1 million South African rand.

Under the amended regulation, all services that are supplied from abroad by an “electronic agent” “electronic communication” or the “Internet” are now electronic services for the purposes of VAT. To be more specific, services being supplied are essentially automated and involve minimal human intervention, and are services impossible to deliver in the absence of IT infrastructure. Educational services provided online are excluded from the amended definition.

Foreign intermediaries that facilitate the supply of electronic services (on behalf of the foreign service provider) and who are responsible for invoicing and collecting payment for the electronic services are treated as “deemed electronic services,” subject to VAT.

Hungary

In August 2014, the Hungarian parliament passed a bill on a new type of tax on advertising published in Hungary. The tax is to be paid by media content providers settled in Hungary and includes online advertising activities. The tax is income based: a yearly income from advertising activity over 100 million Hungarian forint ($355,000) is taxed at the rate of 5.3 percent. An entity can be the subject of the advertising tax in three categories:

• if it publishes advertising for others, providing advertising services and realizing income from such activities—radio and television channels and real estate owners providing leasable advertising surface, printed media publishers, website or other online platform owners or operators. In case of the first group, the base of the tax is the income generated from the advertising activity, i.e. publishing advertising. Every person in this group is obliged to make a declaration on the advertising tax payment obligation irrespective of whether it is subject to such tax or not (by reaching the income threshold of 320,000 euros ($362,000) yearly;
• if it publishes advertising to promote its own services or products or the entity is publishing its own advertising on its own platform (e.g. own website, vehicle etc.). In such cases the basis of the tax is the actual out-of-pocket expenses incurred in connection with the published advertising (e.g., production, labeling, distribution, etc.);
• if (irrespective of where it is domiciled) it orders advertising from a media content provider settled in Hungary—this group is only subject to advertising tax if it cannot prove with a written declaration from the publisher of the adverts that it will pay the advertising tax.

The above 5.3 percent tax rate applies for the first and the second group, while in the third group the monthly costs spent on advertising activity over the threshold of approximately 8,000 euros are taxed at the rate of 5 percent. The tax must be paid monthly by the entities in the third group and yearly in case of the other tax subjects.

South East Asian Countries

Malaysia introduced in its 2019 budget a proposal that digital services tax will be implemented from January 1, 2020. Under the proposed law, foreign service providers providing online services to consumers resident in Malaysia are to pay service tax to Malaysian customs.

In Singapore, from January 1, 2020, foreign supplied digital services will be subject to goods and services tax covering business-to-consumer or business-to-business.

Thailand is proposing to levy 7 percent VAT on online purchases, advertisements and website rent in Thailand earned by foreign-based digital service providers.

Indonesia is bringing in new rules from April 2019, requiring e-commerce sellers to share data with tax authorities on how much money is made by each vendor that sells through their sites. Online sellers with revenue of at least 4.8 billion rupiah (US$340,000) are required to charge VAT of 10 percent to buyers. Additionally, small or medium-sized businesses must pay 0.5 percent of revenue as income tax, while larger enterprises must pay the corporate tax rate of 25 percent on profit.

Planning Points

The digital services tax is only an interim solution to ensure fair taxation of digital businesses, collected based on the residency of consumers in home jurisdiction. The digital services tax shares a number of features with a VAT, by applying “destination” principles to determining the tax base, and in potentially allowing taxpayers to leverage information already collected from their customers (in a VAT context) for determining their location.

What appears to be contemplated is the idea of a nonresident taxpayer accounting for the tax by registering and paying in each jurisdiction in which they are liable for the tax. Keeping in view the principal purpose of electronic commerce tax, some key planning recommendation for business are:

• Businesses need to develop a process and to record information of users accessing digital services to discharge their tax liabilities.
• Even though digital services tax is in the nature of a VAT or indirect tax, input used in providing the services may not be available as credit under the present regulations. Businesses should assess the cost of input services which will become sunk cost, unless there is clarity in the regulation to reclaim credits.
• ASEAN countries and a host of South American countries are also introducing digital service tax. Businesses must revisit their business models in these countries.
• There are reporting obligations in each jurisdiction—monthly or quarterly. Businesses must develop processes and IT systems to meet the reporting requirements.

Rajeev Agarwal is Head of Global Tax with Qatar Navigation QPSC. He may be contacted at: rajeagar2012@gmail.com.

Disclaimer: The content of this article is intended for general information purposes. You should always seek professional advice before acting. No responsibility is taken for any loss because of any action taken or refrained from in consequence of its contents.