Tax Articles

Is CITIRA Ready to Tax the Digital Economy?

Atty. Benedicta Du-Baladad

How are the likes of Netflix, Spotify, iTunes or Amazon taxed? How about subscription-based media like news, magazines, streaming TV shows, gaming and the likes? Or perhaps website hosting, online data warehousing, file-sharing and cloud storage services? How are these taxed when the suppliers are outside the country? How?

Each time my credit card is charged for subscription fees, I stare at the wall and wonder if my payments to online suppliers can be taxed under our current rules. These payments go tax-free, not monitored, not quantified. Surely, there is income earned from the country. But whether that income can be taxed is another matter.

Our current Tax Code says that an income from the performance of a service is taxed only if performed in the country. The same rule was carried in CITIRA under House Bill No. 304. The determining factor to tax is the place where the service in rendered. In the case of digital services, where is the service deemed rendered? Is it where the content provider is? Or where the user is located?

The nexus to tax is not clear. And how much to tax is likewise not clear. But we are in a tax reform mode, aren’t we? CITIRA can say that digital services are considered rendered in the country where user is located, and instantly, that would give the government the right to tax.

But where the foreign supplier is a resident of a tax treaty country, still, no income tax can be imposed unless the supplier has a physical presence (or Permanent Establishment, in technical term) in the country. Of course it follows that most of these online providers are housed in a tax treaty country to avoid being taxed. In the end, the country is left with an empty bag just the same.

In the case of Korea and India, while they are stuck in traditional rules requiring the presence of a brick and mortar presence, a Permanent Establishment (PE), before they can impose a tax, they have expanded the concept of PE to include servers in the case of Korea or digital sales in the case of India.

The erosion of revenue from the untaxed digital economy is a worldwide problem affecting especially the developing countries who are mostly the users, in contrast to the developed countries hosting valuable intellectual properties of big digital providers, thus raking in all the revenues. BEPS (Base Erosion and Profit Shifting) 2.0, an initiative driven by OECD, is trying to resolve this with difficulty.

The Philippines is a strong user of digital services, but tax-wise, we haven’t collected a cent, I suppose. One reason is that, our rules seem to have not embraced the digital economy. Second is the problem of implementation and monitoring.

The same reasons could be what pushed most countries to shy away from the traditional use of source-rules, transfer pricing or formulary approach for their share in digital revenue. In Asia for example, there seems to be a convergence towards the use of indirect tax such as consumption taxes like GST(Goods and Services Tax) and VAT.

Singapore, for instance, have revised their rules to impose a GST on digital services beginning January of this year 2020. It has required foreign suppliers of online services in Non-GST B2C transactions to register under the “Overseas Vendor Registration” system, and file and pay the GST. Malaysia did basically the same concept.

Similarly, Japan used its consumption tax system (VAT) to cover digital transactions by shifting its rules from ‘place of supplier’ to ‘place of user’ as regards digital services and using the reverse-charging mechanism to collect.

If we follow Japan’s ‘place of user’ concept which, by the way, is aligned with the destination principle under our VAT system, the act of streaming or use of digital services is Vatable. To collect, the current system using the withholding VAT mechanism can be used but only with respect to B2B transactions. B2C transactions may have to follow Singapore’s and Malaysia’s Overseas Vendor Registration.

The magnitude of the digital economy and its impact on stripping a country’s revenue cannot be taken lightly. Data is the new oil, so they say. But unlike oil, data is non-rivalrous – a single piece of data can be used in multiple algorithms and applications at the same time. It can generate positive externalities and it exhibits economies of scope according to a UK Treasury Paper – ‘The Economic Value of Data’. Overtime, it will displace traditional ways. And soon.

Digital services include the following, among others:
1. Downloadable digital content (e.g. downloading of mobile applications, e-books and movies);
2. Online subscription-based media (e.g. news, magazines, streaming of TV shows and music, and online gaming);
3. Online licensing of software programs (e.g. downloading of software, drivers, website filters and firewalls);
4. Electronic data management (e.g. website hosting, online data warehousing, file-sharing and cloud storage services); and
5. Support services, performed via electronic means, to arrange or facilitate a transaction, which may not be digital in nature (e.g. commission, listing fees and service charges)
6. Online platform (e.g. offering platform to trade products and services)
7. Advertising platforms
8. Search engines
9. Payment processing services
10. Social networks

Now, going back to my question - Is the CITIRA (Corporate Income Tax and Investment Rationalization Act) ready to tax the digital economy?