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Explainer: International taxation and the introduction of the digital service tax

Ugandan money
Ugandan money

The advancement in technology has simplified borderless trade among countries. Before, trade could only occur nationally. After the emergence of the internet, the world has become a global village and therefore, the national market has amalgamated into a global market.

Different innovations have come up and thus the global business has become increasingly digital thereby creating a digital economy in the world. This phenomenon has forced fiscal policy makers to take action related to taxation of transactions that occur in the space. The digital economy is the transaction of goods and services through internet media or electronic commerce.

The digital economy has made it easy to exchange information, buy and sell transactions, and make payment transactions more accessible for many people. Be it in banks, markets, shops, knowledge search among others.

As you may be aware, the government of Uganda proposed to introduce the Digital Service Tax (DST) effective July 1, 2023. This is because over the years the existing international tax system has not been properly capturing taxation of the digitalised economy though the current international tax rules in sections 83 to 88 under the income Tax Act has only been giving guidelines on how multinational corporations would generally pay corporate income tax and only where production occurs rather than where consumers or, specifically for the digital sector, users are located.

It is important to note that some school of thought believed that through the digital economy, businesses indirectly generate income from users abroad but, without a physical presence, are not subject to corporate income tax in that foreign country.

The question of physical presence is broad in nature, under the Conventions or double taxation agreements article five; physical presence is termed as a permanent establishment.

The presence of the internet in international trade has led to the emergence of digital goods and services transactions. The challenge however remains on the imposition of taxes on such.

Digital transactions currently do not require the existence of economic substance like

permanent establishment for such a transaction to occur. The OECD is in full gear to develop guidelines on how to conduct transactions of a digital nature. The rationale for this is to prevent multinational web based firms from committing tax fraud and avoidance.

For purposes of these conventions, a permanent Establishment or a (PE) as popularly known means a fixed place of business through which the business of an enterprise is wholly or partially carried on. Thus these may include a place of management, a branch a workshop, a factory site , an office, a mine , gas quarry any other place of extracting mineral resources and building site, a construction, assembly or installation project or supervisory activities in connection therewith, but only if such site, project or activities last more than six months.

Therefore, due to the inefficient existing International taxation rules worldwide,

the Organization for Economic Co-operation and Development (OECD) has been hosting

negotiations with more than 130 countries to adapt the international tax system and thus the current proposal would require multinational businesses to pay some of their income taxes where their consumers or users are located that is where they have a PE.

However, despite the ongoing multilateral negotiations many countries have decided to move ahead with unilateral measures to tax the digital economy. About half of all European OECD countries have announced, either proposed, or implemented a digital services tax (DST), which is a tax on selected gross revenue streams of large digital companies. Besides these are perceived as interim measures until an agreement is reached at OECD level of which time lines are not known yet many countries are losing corporation tax on the digital transactions.

Therefore, the question remains unanswered if the countries, which have come up with their DST proposals and levies, will ever repeal them should the OECD reach a consensus.

It has been noted that due to gaps in the current tax systems, large multinational enterprises have capitalized on these gaps to carry out large-scale tax avoidance schemes. Theses have not been appreciated by the country of jurisdiction since these multinational are deemed not to have been able to pay their fair share of taxes and depriving states their taxable revenues.

Based on this understanding, the G20 countries tasked the OECD to propose a very vibrant and significant tax change and came up with the BEPS intuitive (Base Erosion Profit Shifting)

Amendment of the Income tax Act section 86 in Uganda

The principal tax has been amended by insetting immediately after section 86 with section 86A on the taxation of non-residents providing digital services.

(1)That a tax is imposed on every non-resident person deriving income from providing digital services in Uganda to a customer in Uganda at the rate prescribed in Part IV of the Third Schedule of the income tax Act.

(2) For the purposes of subsection (1), income is derived from providing a digital service in

Uganda to a customer in Uganda, if the digital service is delivered over the internet, electronic network or an online platform.

(3) For the purposes of this section 'digital service' includes:

(a) Online advertising services; these are services that advertise your business online basically through search engines and social media.

(b) Data services; these are services which can make data more reliable and resilient and

comprehensive which makes the data more useful to users and programs.

(c) Services delivered through an online market place or intermediation platform, including an accommodation online market place, a vehicle hire online market place and any other transport online market place.

(d) Digital content services, including accessing and downloading of digital content.

(e) Online gaming services; these are features which allows users to play games with others online.

(f) Cloud computing services; these are services delivered to consumers over the internet. This in context would mean that the online market places or intermediation services would be affected largely. The market places refer to online shopping centers where products from various brands are offered. Any product at any time and from anywhere can be found on these market places.

There are different market place platform models like business-to-business (B2B), business to consumers (B2C), peer-to-peer market places, and business to government (B2G) among others.

Therefore as the Minister of Finance planned to introduce the DST effective July 2023, it would mean that any foreign company that generates revenue from the above activities would have to pay a DST.

Some countries like Indonesia have gone ahead to charge such tax on any revenue that is

generated from placing a digital interface of advertising, to third parties who facilitated the supply of goods or services directly between users who facilitate another user to interact and also the transmission of user’s data and data generated from users activities on digital platform/interfaces. In East Africa, Kenya already started to impose Digital Service Tax.

Analysis of the situation and the some questions to pose

(i) Where will the tax incidence be? In other words, how will the tax affect or influence

the prices of goods and services in Uganda and who will bear the ultimate tax burden?

(ii) How will the tax burden be distributed between the taxpayers that is Ugandan companies using the digital platforms or interfaces and their consumers?

(iii) What will be the administrative costs from the Taxing Authority and the compliance costs on the side of the consumers?

(iv) We need to understand the distortion the digital service tax will bring to Ugandan

economy. Is it true that it will be perceived that some companies will be favored

compared to others or not?

(v) What will happen to the investments in general? Will the investors shy away and

thus lead to lower investments, and what about the employment services to dwindle

down or not? It’s likely that the digital services will be less and thus less consumers

will be interested in it.

(vi) Another point to pose is how will anon-resident person without a permanent establishment in Uganda but providing digital services to a consumer in Uganda be taxed? The question takes me back to question (iii) that such a person will have to incur compliance costs by taking simple tax registration in Uganda or appointing tax agents on his behalf.

(vii) In addition, how effective has it been to countries which have adopted it, that is the

cost vs benefit in those countries which have already passed proposals to implement

it. Why has the OECD & G20 delayed to approve it and instead member states adopted their unilateral proposals to tap the tax havens of these multinationals in the market places or digital economy. One reason I know is that there are still differences of opinion regarding the taxation rights on income derived from e-commerce transactions.

In conclusion, Uganda’s adoption of digital taxation will greatly underrate the ICT sector as a driver for social economic transformation. The best option would be to take measures and access of ICT infrastructure to all nationals. The government would look at other tax bases than suffocating the ICT sector. School, hospitals universities, entertainment industry, tourism all have adopted online businesses, what will be the fate if the DST is imposed and the future of our digital economy.

We need to come up with brilliant ideas on investments options where government can tax and get revenue because taxation is the only practical means of raising the revenue to finance government spending.

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