Reforming GST Rules for Foreign Digital Suppliers

Wei Cui

The Trudeau government recently announced the extension of the GST to include digital products and services sold remotely to Canadians by foreign suppliers. This change is sometimes referred to as the “Netflix Tax.” The tax policy change is long overdue, and will ensure foreign suppliers of digital services to Canadians pay their fair share of taxes. The new rules will impart greater integrity to our tax system and prepare Canada to look to the future of digital taxation with clear eyes.

In the Fall Economic Statement released last November, the federal government proposed extending the Goods and Services Tax (GST) to digital products and services sold remotely to Canadians by foreign suppliers. The government will also require foreign digital platforms to collect GST that previously went uncollected on goods shipped from Canadian fulfillment centers, and on rentals of short-term accommodations. Many of these proposed changes are long overdue and contain minimal surprises for those familiar with the GST. But in some important ways, the government’s proposal is also bold and forward-looking.

The main proposed change (which would also apply to the GST’s provincial counterparts, the Harmonized Sales Taxes) is simple. The GST is intended to be a broad-based tax on the consumption of goods and services. Digital products and services purchased from Canadian suppliers (including streaming services) are generally subject to the GST—just like physical goods and in-person services. The proposed changes would simply ensure that the services and products bought from foreign suppliers—whether delivered digitally or shipped from fulfillment centers located in Canada—are subject to the same GST on their final prices. 

This isn’t some new tax targeted at “multinational digital giants.” Foreign suppliers subject to the new rules will need to register online with the Canadian Revenue Agency (CRA) to remit GST—and only those with sales under $30,000 a year are exempt from this obligation. This is the same registration threshold facing Canadian businesses. Although the idea of taxing digital services supplied from abroad is sometimes called a “Netflix tax,” this is misleading. In no way is Netflix or any other foreign multinational singled out. As the government’s Statement points out, many other advanced economies that impose the GST (also known as the value added tax) already require foreign vendors to remit tax on sales to domestic consumers. Indeed, the failure to tax foreign remote supplies was an oddity of the Canadian GST.

Despite flowing quite from principles of fair taxation, the changes described above have proven controversial and provoked significant opposition. The main argument made against the so-called “Netflix tax” is that foreign suppliers will raise prices on Canadian consumers. Increasing consumer prices for imported goods and services is a possibility, but that shouldn’t make it controversial. Day to day, Canadians rarely think twice about paying the GST even though it makes goods and services that we buy from Canadian businesses more expensive—we need revenue to pay for government programs and services. There is no reason to not pay the GST on services provided by foreigners, and nor is there a good reason to subsidize this category of consumption by not levying the GST on them. The main reason why foreign-supplied goods and services have not been subjected to the GST previously was that governments assumed that the challenge of collecting tax from foreign suppliers with no physical presence in Canada was overly difficult. This assumption has been challenged over the last 10 years, as seen in the examples of Quebec’s and Saskatchewan’s successes in taxing foreign suppliers.  

Some hail the proposed GST changes as leveling the playing field between foreign and Canadian sellers. But when I teach tax policy to students, I urge them to approach such claims with caution. I tell them that leveling the playing field is not a terribly reliable guide to designing tax policy. In the real world, so many things can affect the playing field so that you never know whether one particular tilt will cause further imbalances or compensate for other unwanted tilts. This is especially true in international trade in services: who knows whether the foreign suppliers are receiving more or fewer government subsidies than ours? Moreover, trade often happens when foreigners produce unique goods and services that domestic companies cannot produce, either at all or nearly as well. That is, we often observe trade when domestic producers are not up for competition. Netflix didn’t start streaming in Canada because of flaws in the Canadian GST.  

In fact, to appreciate what is truly exciting about the new proposed GST changes, a healthy dose of skepticism about the rhetoric of levelling the playing field is helpful. After the GST begins to apply equally to foreign and domestic suppliers in July 2021, do we expect Canadian consumers to watch more CraveTV, stay in hotels rather than AirBnB, and generally distance themselves from foreign digital platforms? Perhaps there will be a very small shift in this direction at the margins, but I would not be surprised if it turns out to be negligible. Instead, digital delivery of goods and services seem to be the way of the future, and foreign suppliers will likely gain even greater prominence in the lives of Canadians. This may be why, elsewhere in the Statement, the government indicated the intention to announce a proposal in 2021 for new income tax rules on “corporations providing digital services.” Such new rules would not be about levelling the playing field, but about “ensuring that corporations in all sectors, including digital corporations, pay their fair share of taxes in respect of their activity in Canada.”

What could easily go unnoticed is that the announced GST changes will already begin to serve this purpose. In the proposed rules requiring that foreign digital platforms collect Canadian GST on short-term accommodations, platform operators like AirBnB would in the first place collect GST on payments made by guests to Canadian hosts. This arrangement make sense—and is already adopted in many parts of the U.S. and Europe—because centralized tax collection by AirBnB is both less costly (for taxpayers and the government) and more likely to lead to compliance than asking individual landlords to remit GST. In addition, the government will require AirBnB to remit GST on the service fee that guests pay to AirBnB itself. Since many guests renting Canadian accommodation on AirBnB are not Canadians themselves, this rule effectively imposes the GST on services foreign suppliers make to other foreigners. 

Nothing in the traditional design of the GST makes this rule obligatory. It would be analogous to imposing the Canadian GST on a European travel agent for services it provides to a European customer in booking a vacation in Canada—which GST rules generally do not do. However, this rule, taken by itself, also makes some sense: AirBnB is profiting from Canadian hosts’ participation on its platform, and Canada wants AirBnB to pay a “fair share” of tax on this profit. 

Whether or not you subscribe to this idea of what constitutes a “fair share” for Canada, there are at least three reasons to think the new proposed “GST” rule is a better way to implement it than others. 

First, the rule is likely to be simple and easily administered. Platform operators do not have to apply complex rules about cost and profit allocations, or litigate with the CRA about how to interpret such rules.

Second, the impact of the rule—whether it is good or bad—on Canadians, foreign platforms, and foreign consumers—can be assessed in the immediate future in a much easier way compared to policies implemented through the corporate income tax. Some people think that the digital giants will bear the brunt of the new tax on sales: companies like AirBnB operate with vanishing marginal costs, and therefore any tax imposed on their revenue is for all intent and purposes a tax on their marginal profit. Others believe that the cost of the tax will be passed onto consumers. There are still others, especially tax lawyers and accountants, who will claim that “double taxation” will result (makers of such claims also tend to have the least coherent positions about who bears the cost of taxation). Policymakers can assess whose claims are right by looking at the reactions of merchants, platforms, and consumers with respect to particular markets. If the Canadian GST rule clashes with GST rules of other countries, technical corrections can also be made easily. 

Third, the new proposed rule applied to digital platforms provides business certainty. It is not contingent upon some multilateral agreement among over a hundred countries that can unravel at any moment. Controversies that emerge from particular sectors do not have to spill over and distort policy choices in others. The fate of entire tax systems does not have to be held hostage by the opinions of a few multinationals. 

The federal government’s new proposed GST rules on foreign suppliers introduce certainty and clarity in the taxation of the digital economy. These changes will also ensure that foreign suppliers will pay their fair share. Furthermore, this will remedy a long-known flaw in the Canadian GST and impart greater integrity to our tax system. In doing so, they prepare Canada to look to the future of digital taxation with clear eyes.