Canada’s Digital Services Tax Act was enacted on June 20, 2024 and came into effect by Order in Council on June 28, 2024. The new legislation imposes a digital services tax of 3% on digital services revenue exceeding C$20 million. As noted below, the first payment is due on June 30, 2025.
The digital services tax (“DST”) applies as of January 1, 2024, with retroactive effect to January 1, 2022. The purpose of the DST is to ensure that revenue earned through online services in Canada is subject to Canadian income taxation at the federal level.
The application of the digital services tax is broad and will impact both domestic and international enterprises. Taxable revenue includes income derived from online marketplace services, advertising services, social media services, and the monetization of user data. Both domestic and foreign businesses are targeted by the tax, as long as their global revenue exceeds €750 million.
At this stage, the DST operates only as a federal tax. Provinces have not yet announced proposals for a similar tax.
To Whom Does the DST Apply?
The DST applies to large businesses, whether foreign or domestic, that meet both of the following thresholds:
- (i) global revenue from all sources of €750 million or more (i.e., the threshold for country-by-country reporting under an OECD standard) in the previous calendar year; and
- (ii) digital services revenue (associated specifically to Canadian users) of more than C$20 million in that calendar year.
A business that is a member of a corporate group (a “Consolidated Group”) that meets both thresholds will also be subject to the DST.
How is the DST Calculated?
The DST applies at a rate of 3% on digital services revenue derived from the engagement, data, and content contributions of Canadian users. The DST will only be applied to the amount by which the digital services revenue of the business or Consolidated Group exceeds C$20 million.
In general terms, digital services revenue for a calendar year is the sum of all revenues from the following sources:
- (i) online marketplaces: including digital interfaces that help match sellers or service-providers to potential buyers (e.g. online auction sites and ride- or accommodation-sharing services), or any associated subscription fees;
- (ii) online advertising: including the display of targeted advertisements and systems that facilitate online advertising placement by third parties;
- (iii) social media platforms: including popular social media platforms and any premium fees or subscription services, but excluding platforms for which the sole purpose is to provide communications services such as teleconferencing; and
- (iv) sale and/or licensing of user data of an online interface: including the sale or licensing of anonymized or aggregated data gathered from users of an online interface.
In the event that revenue could be included in more than one of these revenue streams, it will be limited to just one, with priority following the foregoing order. Revenue is to be quantified using the accounting principles that the taxpayer employs in its financial statements.
There is an exception to the above: a taxpayer may elect to use a simplified formula-based method for calculating digital services revenue for the calendar years for which the DST will apply retroactively (i.e., 2022 and 2023).
Limitations: revenue sourcing
The application of the DST is limited to digital services revenue generated from users located in Canada. Whether a “user” is a “user located in Canada” is determined by “what is reasonable to conclude” given the data available to the taxpayer in its normal course of business. Two general methods will be used to determine if users are located in Canada:
- A user’s precise location at the time of the transaction will be used for online advertising services revenue and user data revenue.
- For other revenue streams, different data may be relevant to the determination of a user’s location (e.g., the user’s address on file or its telephone area code).
If there is uncertainty about whether a particular user is inside or outside Canada, such user’s location will be Canada by default.
For online marketplaces, revenues will generally be sourced to the locations of the users who interact through the interface. Revenue associated with a particular transaction between users will generally be considered to be sourced 50:50 to the locations of the buyer and seller.
What Compliance Obligations Apply?
Registration
A taxpayer must register under the Digital Services Tax Act (“DTSA”) if the business meets the following conditions in a given calendar year:
- (i) a global revenue of more than €750 million threshold, and
- (ii) a digital services revenue of more than C$10 million.
Given that DST only applies to digital services revenues of more than C$20 million, a taxpayer may nevertheless be required to register under the DSTA without having any DST liability.
The application to register must be completed by January 31 of the calendar year following meeting the earning conditions described above. Penalties of C$20,000 per year apply to taxpayers who fail to register.
DST returns and payments
Businesses subject to DST for a given calendar year will be required to file an annual return on or before June 30 of the following calendar year.
One annual payment is required by June 30 of the following calendar year. Given the retroactive nature of the DST implementation and its coming into force in 2024, the first payment of DST should include the DST on revenues earned since January 1, 2022, and will be due on June 30, 2025. Payments of C$10,000 or more should be made electronically, unless another payment method can be justified.
It is important to note that any entity within a Consolidated Group may be jointly and severally liable for DST payable by another group member. In theory, this means that a Canadian subsidiary of a non-resident parent that is a member of a large global group could be fully liable for DST payable by any other group member.
Key Takeaway
The implementation of DST will have wide-ranging effects on businesses supplying digital services in Canada. Both domestic and international enterprises should monitor the potential impacts of the DST levy on their affairs and consider their compliance obligations.
[View source.]
