Choose Site

LawFlash

UK Government Launches Consultation on Design of ‘Digital Services Tax’

November 09, 2018

The UK government seeks representations from stakeholders regarding the design of its proposed “digital services tax,” which would apply to search engines, social media platforms, and online marketplaces, and levy a 2% tax on certain revenues. Acting unilaterally, the UK is introducing its own form of digital services tax following a European Commission proposal to introduce a similar tax as a temporary measure—the long-term aim being the alignment of international tax norms with the manner and method of value creation in the digital economy.

On October 29 the United Kingdom (UK) government announced its plans to introduce a “Digital Services Tax” (DST) in April 2020. The government has stated that the tax will be levied at 2% of the revenues of digital businesses “where their revenues are linked to the participation of UK users.” On November 7 the UK government launched a consultation process seeking representations from stakeholders on the design of the tax; the process is due to close on February 28, 2019, after which we expect the draft legislation in the second half of 2019.

The broad objectives and design parameters of the DST were outlined in the UK government’s position paper.

  • The DST will apply to search engines, social media platforms and online marketplaces, all of which have business models that the UK government considers derive significant value from user participation and user-generated content.
  • The DST will only be chargeable on businesses whose global revenues exceed £500 million ($655 million), and will offer an exemption for the first £25 million ($32.7 million) of UK revenues that would otherwise be within the scope of the DST.
  • The DST will be a deductible expense when calculating profits for UK corporation tax purposes.
  • The UK government currently intends that the DST will not apply to the sale of goods, and financial and payment services will also be exempted.

The position paper contains some limited examples of how the UK government envisions the DST will operate.

  • If a social media platform generates revenues from targeting advertisements to UK users, a 2% tax will apply to those revenues.
  • If a marketplace generates commission by facilitating a transaction between UK users, a 2% tax will apply to commission revenues.
  • If a search engine generates revenues from displaying advertising against the result of key search terms input by UK users, a 2% tax will apply to those revenues.

From a design perspective, these initial proposals raise a number of questions, on which the UK government is seeking representations as part of its consultation process. The consultation document covers aspects of the design of the DST, including the determination of how key concepts—such as what constitutes a search engine, social media platform, or online marketplace—will be framed, and how to identify UK users and calculate UK revenues. The consultation also addresses practical matters, such as how the DST will be administered and collected, and its interaction with the UK’s international obligations.

The DST is stated to be a temporary measure, pending international consensus on the taxation of the digital economy. The UK government has stated that the DST will be subject to review in 2025, to establish if it is still required.

EU Proposals

Perhaps unsurprisingly, the UK proposal is broadly aligned with the proposal for an EU-wide digital services tax, on which the European Commission (Commission) consulted earlier this year. These proposals all build on the findings of the Organisation for Economic Co-operation and Development’s (OECD’s) Base Erosion and Profit Shifting (BEPS) project, which seeks to address the perceived mismatch between value creation in the digital economy and the application of international tax norms, which largely remain tied to concepts of physical substance.

The Commission’s proposal envisions the imposition of a 3% revenue-based digital services tax across all EU jurisdictions as a transitional measure until EU member states are able to agree on the creation of an EU-wide “digital permanent establishment” concept. Broadly, if this concept is introduced, it is expected that businesses would have a “digital permanent establishment” in a given EU member state if they supply digital services to customers in that member state through a digital platform with revenues, users, or the number of contracts concluded through the platform exceeding specified thresholds.

Other EU member states are pressing on with the introduction of digital services taxes. Spain’s proposals currently appear to be the most advanced; the Spanish government has recently announced the introduction of a digital services tax modeled on the Commission’s proposal, which will be levied at 3% of revenues from the provisions of digital services to devices located in Spain (to be determined though a device’s IP address). Spain’s proposals are currently subject to a consultation, with implementation expected sometime in 2019. However, despite examples of early adoption, some EU jurisdictions (notably the Republic of Ireland) have expressed reservations about the current Commission proposal.

The current proposed form of the digital services tax is intended to be a stop-gap measure until the digital permanent establishment concept is introduced. It will be interesting to see how this concept evolves at the international level, particularly as current bilateral tax treaties generally require some form of physical presence in a given jurisdiction before that jurisdiction acquires taxing rights over income, profits, and gains.

UK Consultation

Morgan Lewis is reviewing the UK government’s consultation on the design of the DST and will provide a further update shortly. We invite interested parties to discuss the DST with us and make representations as part of the consultation process, which closes on February 28, 2019.

Contacts

If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following Morgan Lewis lawyers:

London
Kate Habershon
Katerina Heal
Neil McKnight

San Francisco/Silicon Valley
Barton W.S. Bassett