Major tax changes for digital businesses in Canada

Canada has enacted significant changes to its tax regime for businesses operating in the digital economy. Canada’s Digital Services Tax (DST) came into force on 28 June 2024 (legal act and regulation) and Canada has also introduced new reporting requirements for digital platform operators, which came into force on 1 January 2024. Recently the Canadian Tax authorities provided further guidance hereto.

Introduction of digital services tax

Canada’s DST targets large foreign and domestic companies that generate significant revenue from digital services through interaction with Canadian users, aiming to ensure fair taxation of income earned from online services.

Canada has always indicated that it supports a multilateral approach to the implementation of digital service taxes. However, Canada could not support the “extended standstill” for the implementation of a multilateral DST and therefore proceeded with its own DST which has now entered into force. The DST is introduced as an interim measure, pending the implementation of a global multilateral solution under the OECD/G20 Inclusive Framework.

Applicability

The Canadian DST applies to businesses with digital services revenue meeting the following thresholds:

1. Global Revenue: The business or its consolidated group must have total revenue of €750 million or more in the preceding fiscal year.
2. Canadian Digital Services Revenue: The business must earn more than CA $10 million in digital services revenue from Canadian users in a calendar year (not fiscal year). However, DST is only to be calculated on Canadian digital services revenues earned by the taxpayer above CA $20 million. Therefore, a taxpayer may have a registration and filing requirement even if it has no obligation to pay DST.

Both foreign and domestic businesses are affected, and consolidated groups are treated as a single entity for these thresholds.

The DST Act defines a “consolidated group” as: an ultimate parent entity and one or more other entities that are required to prepare consolidated financial statements for financial reporting purposes under acceptable accounting principles (e.g., the IFRS), or would be required to do so if equity interests in the ultimate parent entity were traded on a public securities exchange, the trading on which requires the use of acceptable accounting principles.

In-Scope Revenues

The DST applies to four main types of revenues: 1) online marketplace services revenue, 2) online advertising services revenue, 3) social media services revenue and 4) user data revenue.

A brief overview of each of the four revenue streams is provided below.

1. Online Marketplace Services: Revenue from platforms that connect buyers and sellers of goods and services.

An “online marketplace” is defined as a digital interface (e.g. website or application) that allows users to interact with other users and facilitates the supply of property or services, including digital content, between those users.

Digital interfaces with a single supplier, or digital interfaces whose main purpose is to provide payment services, make advances, grant credit, or lend money (or facilitate supplies of financial instruments) are specifically excluded from the definition of an online marketplace and are therefore outside the scope of the DST.

Revenue earned by an online marketplace does not include revenue from the provision of storage or shipping services to the extent that the revenue reflects a reasonable rate of remuneration for the service.

Canadian online marketplace services revenue is calculated based on how much of the business involves Canadian users: If a service is physically performed and received in Canada (e.g. vehicle ride or food delivery) or relates to Canadian real property (e.g. short-term accommodation) or goods (e.g. car sharing) situated in Canada, all the revenue is counted as sourced in Canada.

For transaction fees (e.g. commission fees for facilitating supplies between users), revenue is sourced to Canada depending on the location of the users:
• If both the supplier and purchaser are in Canada, all the revenue is Canadian.
• If only one is in Canada, half the revenue is counted as Canadian.
• If neither is in Canada, no revenue is counted as Canadian.

There’s also a specific formula for non-transactional revenue (i.e. not in respect of a particular supply between users) to determine how much is sourced to Canada.

2. Online Advertising Services: online advertising services revenue includes money earned from:
   • Facilitating the delivery of online targeted advertising services through an online digital interface.
   • Providing digital space for online targeted advertisements.

An online targeted advertisement is defined as an advertisement consisting of digital content that is “prominently” placed on or transmitted through a digital interface that is targeted at users based on the data attributes of the users.

Canadian online advertising revenue is calculated based on where the targeted user is located, specifically when the revenue comes from displaying or interacting with a targeted advertisement. If the revenue cannot be linked to a specific user or if the user’s location is indeterminable, the revenue sourced to Canada is determined by a pro-rata formula.

3. Social Media Services: revenue from social media services includes earnings from providing a social platform that enables user interactions or interactions with user-generated content. This includes revenue from:
   • Providing access to, or use of, the social media platform and any premium services; and
   • facilitating interactions between users or with digital content created by other users on the platform.

For example, the provision of online games will not be considered social media revenue where the user interaction component is incidental to that main purpose.

Revenue earned by a social media platform from providing access to its own content (i.e. not user-generated content) is excluded from social media revenue. Moreover, revenues in respect of social media services arising from transactions between members of a consolidated group are generally excluded.

Canadian social media services revenue refers to the portion of a business’ (or its consolidated group) total social media revenue that is linked to Canadian users.

4. User Data Sales: User data revenue includes earnings from selling or licensing data collected from users of online marketplaces, social media platforms, and search engines. This data can include personal information such as names, email addresses, preferences, or billing details.

Exclusions for a business or their consolidated group include revenue from selling or licensing data not collected by them and from transactions between members of the same consolidated group.

If user data can be traced to an individual user located in Canada, the revenue from selling or licensing that data counts as Canadian user data revenue. However, if the data comes from multiple users and cannot be traced to a specific individual or if the user’s location is unknown, Canadian user data revenue is calculated based on the percentage of users that are located in Canada.

Tax Rate and Retroactivity

The DST is levied at 3% on in-scope revenues exceeding CA $20 million earned from Canadian users. Importantly, the tax is retroactive and applies to revenues earned from January 1, 2022. Taxpayers and consolidated groups may elect to use a simplified method to calculate their DST liability for years prior to the first year of application (i.e., for the year 2022 and 2023).

Registration threshold

Businesses and consolidated groups are required to register for the DST if they meet the € 750 million threshold and earn more than CA $10 million of Canadian digital services revenue on an annual basis. The threshold to register is lower than the threshold for taxation (CA $20 million). If a business is required to register, it must apply to register by 31 January of the following calendar year. Presently, the law does not impose a requirement to appoint a fiscal representative.

Compliance and Reporting

The first filing and corresponding payment for entities who are required to register for 2024 and/or earlier years is due by June 30, 2025, with annual returns required thereafter. A penalty of CA $20,000 applies per year for failure to register. Next to this, a wide range of penalties and fines are provided for non-compliance.

Among others:
• A penalty of (the sum of) 5% of the tax payable plus an additional 1% of the tax payable multiplied by the number of months the return was filed late (max. 12 months) on the DST payable when the DST return is filed late. In case of repetition, the % increases to respectively 5% and 2 % (max. 20 months).
• Failure to provide information can be sanctioned with an additional fine of CA $2,500. Providing false information or omissions: CA $5,000 or 25% of the DST due.

Administration and Group Liability

For groups, one entity may be designated to fulfil the DST obligations for the entire group. All group members are jointly and severally liable for the DST owed by any member. The DST Act includes a CA $20 million deduction for in-scope revenues that are shared among group members. This deduction can be taken into account when calculating the tax based on the by law provided formula.

SAAS companies

Currently it is unclear whether the SAAS companies would fall within one of the four in-scope revenue streams. Our practice shows that SAAS companies offer a wide variety of services, which can include DST in scope revenue. SAAS companies conducting business in Canada should therefore thoroughly examine the services they render to check for a possible DST liability.

e-Commerce platforms

For e-Commerce platforms, the types of revenue that are typically captured include:
• Commission Fees from Sellers: E-commerce platforms that act as intermediaries between buyers and sellers often charge commission fees to third-party sellers for using the platform. These fees are to be included in the DST calculation when they are earned from Canadian sellers and/or transactions involving Canadian buyers.
• Transaction Fees: Platforms may charge fees per transaction for the use of the marketplace. Revenue from these transaction fees, when involving Canadian users or buyers, would also fall under the DST.
• Advertising Revenue: If the e-commerce platform generates revenue from advertisers targeting Canadian users (for example, through promoted listings or ads displayed on the platform), this revenue is subject to DST as online targeted advertising.
• Data Monetization: If the platform monetizes data collected from Canadian users (e.g., by selling user data or using it to enhance targeted advertising), this revenue could also be within the scope of the DST.

Crypto platforms

Whether or not revenue made by Crypto platforms is in scope of Canadian DST, will depend on whether the services of Crypto platforms qualify as “online marketplace” services.

An exchange which has a purpose of facilitating the sale of tokens and, in fulfilling that purpose, enables users to sell tokens to other users, will presumably fall within the definition of an online marketplace service. However, digital interfaces with the main purpose to facilitate supplies of financial instruments are excluded from the definition of an online marketplace and are therefore outside the scope of the DST. At this time, it is not clear whether crypto assets qualify as financial instruments for Canadian DST purposes. In this respect, note that for UK DST purposes, crypto assets are not regarded as financial instruments as they do not represent either cash or a contract establishing a right or obligation to deliver or receive cash or another financial instrument. Therefore, it cannot be excluded that crypto platforms are captured by the Canadian DST. It is worth noting that for Canadian goods and services tax/harmonized sales tax (“GST/HST”) purposes, a virtual payment instrument (VPI), which is generally defined to mean “property that is a digital representation of value that functions as a medium of exchange and that only exists at a digital address of a publicly distributed ledger” such as bitcoin and other cryptocurrency, is considered to be a financial instrument. Therefore, the sale or transfer of a VPI is exempt as a financial service under the Excise Tax Act (Canada). We expect that it will be necessary to rely on the characterization of the particular crypto asset under the relevant domestic legislation to confirm whether revenue earned from Crypto platforms should be included in the DST calculation.

Next steps for your business

Businesses that are potentially affected by the Canadian DST should take the following steps to ensure they comply with the new rules:
• Consider whether revenues earned in 2022 and 2023 fall into any of the categories of in-scope DST revenues.
• Calculate global consolidated revenues for 2021 and 2022 to determine whether they meet the DST total revenue threshold for 2022 and 2023, respectively.
• Calculate the revenues earned in 2022 and 2023 that fall into the categories of in-scope DST revenues associated with users in Canada for 2022, 2023 and 2024.
• Verify whether they reach the registration thresholds, including whether they earn CA $ 10 million of in scope Canadian digital services revenue and take the necessary steps.

Introduction of DAC7 rules in Canada

In addition to a Canadian DST, Canada also introduced its version of the Model Rules for Reporting by Platform Operators with respect to Sellers in the Sharing and Gig Economy of the OECD (legal act). Similar rules already have been implemented in the EU under DAC7 and in the UK. Furthermore, Switzerland also recently announced the introduction of these reporting rules for online platform operators.

In light of the above the Canadian Tax Authorities published additional guidance regarding these new Canadian reporting obligations for digital platform operators. Under these new rules, reporting platform operators are now required to collect and report information on sellers considered to be reportable sellers to the Canadian Tax Authorities. The deadline for submitting such return has been set annually on January 31st. In other words, the information return regarding the 2024 transactions will be due by January 31st, 2025.

High Level Scope

Because these new Canadian reporting obligations for online platforms, like the EU, UK and Swiss obligations, are based on the model rules of the OECD, the dynamics of these new Canadian obligations strongly resemble the DAC7 rules of the EU, UK, and Switzerland. However, we do note that there are important differences.

Under these new Canadian rules, so called Reporting Platform Operators are required to collect and report information on sellers which are considered to be so called Reportable Sellers to the Canadian Tax Authorities.

Reporting Platform Operator

• It is resident in Canada, or
• It is resident, incorporated or managed in a partner jurisdiction (list of these), facilitates the provision of relevant activities by sellers resident in Canada or with respect to rental of immovable property located in Canada and elects to be a reporting platform operator, or
• It is not resident in Canada, or a partner jurisdiction and it facilitates the provision of relevant activities by sellers resident in Canada or with respect to rental of immovable property located in Canada.

Platform operators, however, will not be considered a reporting platform operator and thus will not have to report information on their Sellers if they can demonstrate that their entire business model does not:
• allow sellers to derive a profit, or
• have reportable sellers.

Reportable Seller

Generally, a Seller is considered to be a Reportable Seller if they:
• Are registered on a digital platform, and
• Reside in Canada or another country that has implemented the rules, and
• Sell goods or offer services, such as the rental of real or immovable property, to customers that reside in Canada or other countries that have implemented the rules.

Note that under the new Canadian reporting rules, not all Sellers would qualify as a so-called Reportable Seller.

The Sellers which are excluded from the reporting obligations i.e. the transactions of which the Reportable Platform Operator does not have to report to the Canadian Tax Authorities are:
• An entity for which the underlying platform operator facilitated more than 2,000 relevant services for rental of certain real property during the calendar year o
• An entity for which the affected operator facilitated less than 30 relevant activities related to the sale of goods and for which the total consideration paid or credited did not exceed $2,800 during the calendar year or
• An entity whose shares are traded on an established securities market, or a related entity of such an entity or
• A governmental entity.

Relevant service

Is a relevant service, if provided for consideration:
• The rental of real or immovable property
• A personal service: means a service involving time- or task-based work performed by one or more individuals at the request of a user
• The rental of a means of transport
• A prescribed service: not yet defined. Indicated that other services will most likely be added to the list

Reportable Transactions

The information to be provided by each reportable seller includes:
• Total consideration paid or credited for relevant activities, along with the number of activities, both broken down by quarter;
• Any fees, commissions, or taxes withheld or charged by the reporting platform operator, also broken down by quarter;
• For rental activities: the property address, land registration number (if available), rental days, property type, and the number of relevant activities for each property listing.

Verification of seller information

As part of its legal due diligence obligation, the reporting platform operator must verify whether the collected information is reliable, using all records available to the reporting platform operator, as well as any publicly available electronic interface to ascertain the validity of the taxpayer identification number (“TIN”).

Penalties

If a Reportable Platform Operator fails to fulfil its reporting obligations, it may be prosecuted for breach of its procedural obligations and a fine may be imposed. For this reference is made to the standard penalty regime in Canadian income tax law. For example, late filing by the platform can result in a penalty between CA $110 and CA $7,600 (which is the standard penalty in Canada for not meeting tax reporting requirements).

But also, a reportable seller who fails to give its TIN on request to a platform, is liable to a penalty of CA$ 500 for each such failure. So not only the platform has got obligations to meet.

Our Recommendations

Based on our experiences with the implementation of the EU DAC7 rules, we strongly recommend online platforms to start reviewing the possible impact of these new Canadian reporting obligations as soon as possible.

We point out that the OECD’s DAC7 approach in principle triggers online platforms to collect (and report) data which it typically would not collect for VAT (i.e. Canadian Indirect Tax) purposes. As a result, substantial changes to customer onboarding procedure, the set-up of financial systems and the Terms & Conditions, etc. should be expected.

In addition, similar to the EU DAC7 rules and regulations, it is our expectation that the underlying Canadian rules and regulations will also be defined in a very broad scope. As a result, the implementation of these new Canadian reporting rules requires sufficient preparation.

Questions?

For more information, please feel free to reach out to our Svalner Atlas colleagues Johan Visser, Ingmar Mul, Sini Paljarvi, Martin Fridh, Alva Brenner, our colleague at Tiberghien Gert Vranckx, or to our Canadian partners at McCarthy Tétrault, Randy Schwartz and Kassandra Grenier.

Switzerland

As a kind reminder, please note that Switzerland recently (also) announced similar tax changes as the underlying Canadian changes. For more information on these changes, please see here.