International Taxation of E-Commerce
Merrill, Peter R., The CPA Journal
The moving larget of e-commerce
Progress in a Global Policy Debate
Last year, total sales of goods and services transacted via the Internet were estimated by Forrester Research at $48.3 billion in the United States. Still small but growing fast, e-commerce is viewed by many tax administration as a threat to revenues from traditional income and consumption tax systems. Some traditional (bricks) retailers are concerned that e-commerce (clicks) retailers gain a competitive advantage from the lighter tax burden. At the same time, computer techologies could be used to improve the functioning of the tax system by streamlining tax adminstration and compliance functions. Given the limited profitability of many e-commerce ventures, tax policymakers give priority to consumption taxes, such as sales and value-added taxes (VAT).
Electronic commerce shines a spotlight on longstanding issues in current tax rules for remote vendors, services, and intangible property. While Internet sales are still only a small portion of all distance sales in the United States, e-commerce has refocused attention on the state tax nexus issue and precipitated the Internet Tax Freedom Act, the Advisory Commission on Electronic Commerce, and the Streamlined Sales Tax Project.
Motivating much of the tax policy activity surrounding e-commerce is the belief that its growth will be exceptionally rapid and will significantly reduce tax revenues. The Internet has advanced remote commerce in several important ways:
* Increased interactivity between consumer and vendor; more automated business transactions; and new types of remote services (e.g., distance learning)
* Extremely low-cost global transmission of information, facilitating international operations
* Digitization of software, films, music, and publications, allowing electronic delivery
* Convergence of telecommunications, media, and software businesses, complicating industry-specific and productspecific tax regimes.
Because of these developments, tax administrators have determined that certain aspects of the existing income and consumption tax regimes require review. Some have even suggested an entirely new tax structure.
Income Tax Issues
Characterization. Under the Organization for Economic Cooperation and Development's (OECD) model tax convention, payments received in the course of carrying out a business are treated as business profits unless otherwise specified. Income characterization has a number of important U.S. and foreign tax consequences, including the withholding rate (if any), eligibility for treaty benefits, appropriate transfer pricing methodology, and application of U.S. antideferral and foreign tax credit limitation rules. Questions have arisen as to whether payments for copyrighted digital information (e.g., music, videos, and software) are royalties or sales income (business profits). Some older or nonstandard treaties treat payments for "technical services" or the right to use "industrial, commercial, or scientific equipment" as royalties.
Permanent establishment A fundamental question in applying national income tax systems is whether a legal entity has enough presence in a foreign jurisdiction to justify net income taxation by that jurisdiction. The OECD model allows a jurisdiction to impose net income tax on a business only if its activities in the jurisdiction rise to the level of a permanent establishment (PE). The use of stand-alone computer servers to conduct business within a jurisdiction has raised questions about the PE rules; some tax administrators have suggested lowering existing PE thresholds to allow taxation of companies that do business in a jurisdiction even though they have no physical presence.
Attribution of profits. The tax consequences of a PE depend upon the amount of income that is properly attributable to the PE. The development of e-commerce business models has triggered a fundamental reconsideration of the principles that should guide the division of profits between a home office and a PE. …