MINISTRY OF REVENUE REPORT ON E-COMMERCE, 1998
In assessing the impact of electronic commerce on the economy, the Committee has attempted to compare traditional commerce, involving tangible goods and services, with electronic commerce, involving intangible goods and services. Although both types of commerce share many tax-compliance problems, electronic commerce may exacerbate many of them.
Governments should carefully study and measure the points at which there is a risk of revenue loss because of electronic commerce and the extent of that loss. Government action should be commensurate with the projected revenue loss and should avoid imposing additional compliance burdens.
The unregulated nature of the Internet and the anonymity it provides may make it easier to avoid or evade income tax on profits realized on electronic transactions.
Electronic commerce may increase the incidence of non-compliance with the tax system.
Taxpayers who now intentionally avoid Canadian federal and provincial taxes do so by going "underground." Avoidance schemes may range from simply not registering as a taxpayer or tax collector, or conducting all transactions with untraceable cash, to more elaborate measures using false names, records, or business systems. The ease of conducting electronic commerce may reduce the number of elaborate schemes, but may increase the number of simple attempts to avoid paying tax.
Revenue Canada is concerned about the magnitude of the underground economy and has established various internal programs to pursue non-filers and ensure compliance with the current tax system. These measures range from an active campaign to locate non-filers to significant penalty and interest charges under the Income Tax Act. These programs have been increased over the past few years to encourage greater compliance with the Canadian self-reporting system.
A voluntary disclosure program is in place to encourage current non-filers to come forward. Penalties are waived under this program, provided that disclosure is voluntary and not a result of a Revenue Canada investigation.
Of concern is the potential increase of non-filers as a result of electronic commerce. Specifically, will Revenue Canada require additional effort to maintain the existing level of compliance with the Income Tax Act? The Australian Taxation Office believes that increased effort is necessary, and has undertaken to develop Webcrawler software to trace non-filers.
Other concerns with increased non-compliance arise as a result of electronic commerce. They are:
- refillable cash cards and other forms of electronic cash;
- the ability to move cash to and from customers and suppliers without the involvement of banks; and
- the ability to use non-Canadian banks.
These areas are dealt with elsewhere in this report (see sections 4.2.2.9 and 4.5.7, below, as well as Chapter 2).
1. Revenue Canada should extend its active campaign to locate non-filers to include electronic commerce activities. It should consider programs to identify businesses conducting Internet commerce, such as:
(a) accessing the domain registry and identifying domain names for Canadian businesses;
(b) establishing a system that identifies Canadians doing business over the Internet;
(c) developing compliance programs based on the population and results of previous audits of businesses with a presence on the Web (risk management); and
(d) developing Webcrawler software to trace non-filers to complement existing programs.
2. Revenue Canada should review current penalties for non-compliance under the Income Tax Act to ensure that they are a sufficient deterrent to non-reporting opportunities that may be created through electronic commerce. These penalties should apply equally to promoters and intermediaries who knowingly participate in non-compliance schemes.
3. Financial institutions should be required to report to Revenue Canada cash or equivalent transactions over a prescribed limit.
4. Revenue Canada should study, with other interested tax authorities, the benefits of an international organization designed to assist countries (most likely those that are signatories of tax treaties) in the exchange of information in order to minimize tax evasion.
Some taxpayers may not be aware of their taxpayer or tax collector obligations and consequently will not report taxable activities or withhold or remit appropriate taxes.
Revenue Canada is concerned about the magnitude of the underground economy and has established various programs to pursue non-filers and to ensure compliance with the current tax system. A voluntary disclosure program eliminates penalties for non-filers who come forward on their own.
Unclear and unknown rules may lead to businesses being subjected to interest and penalty charges once the filing requirements become known. The voluntary disclosure procedure is not useful if a taxpayer's filing status is not known.
Specific concerns include:
- the vendor's inability to identify the purchaser's country of residence;
- the vendor's knowledge, or lack of knowledge, of the tax legislation of the purchaser's country of residence; and
- the purchaser's lack of knowledge of the tax implications of payments to non-residents and related procedures (e.g., the need to withhold and remit).
These concerns are not restricted to Canada. Canadian businesses expanding beyond Canadian borders may have difficulty learning about and complying with tax laws of many foreign jurisdictions. The related filing requirements, especially with a small volume of purchases, could be onerous on businesses if they are subjected to tax in numerous jurisdictions. This problem is international in scope and, to allow business to flourish, it requires international agreement and clarification.
5. Revenue Canada should develop a communication strategy to educate taxpayers on the tax implications of doing business on the Internet or over private networks.
6. Revenue Canada should use its Web site to advertise to residents and non-residents of Canada the implications of doing business in Canada on the Internet and e-mail information to interested parties. Revenue Canada also should link its Web site to Industry Canada's Web site, where information on the implications of doing business in Canada on the Internet already exists.
7. Revenue Canada should approach appropriate organizations (e.g., the CICA/AICPA and similar organizations) to arrange electronic links to the Revenue Canada Web site to provide users with information on the tax implications of doing business on the Internet.
It is now common for goods and services to be produced in one location and consumed in another. The production of services, in particular, no longer needs to take place where the services are to be consumed. Businesses can set up specialized service centres to provide financial management, marketing, accounting, or other services to different arms of the same MNE or to unrelated third parties. These service centres can easily be separated from the rest of the enterprise and can be located where skilled or low-cost labour, or other commercial or tax advantages, are readily available. This fragmentation of economic activity will make it difficult to determine where a particular activity is carried out, which tax jurisdiction has proper authority to tax the profits or the transaction, and how the profits should be allocated between jurisdictions.
For example, suppose a Canadian corporation owns the worldwide rights to distribute a movie over the Internet. The Canadian corporation establishes an Internet site to distribute the movie worldwide. The Internet site resides on a server that could be located in one of three places: (1) in Canada; (2) in a country with which Canada has negotiated a tax treaty; and (3) in a country with which Canada has not negotiated a tax treaty. Customers interested in the movie sign on to the site, which both advertises and provides the facilities to order the movie. A customer, potentially located in any country in the world, orders the movie through this site. The question then arises as to how such a transaction, and the profits it generates, should be taxed in Canada.
The question is further complicated by the need to determine whether the transaction concerns the provision of services, the sale of goods, or the sale of intellectual property (in the form of digitized media).
Non-residents of Canada generally are liable to pay income tax in Canada under the general rules set out in the Income Tax Act only if they carry on business in Canada, dispose of certain types of tangible property, or earn passive income from Canadian sources. However, the general rules of the Income Tax Act, even where they apply, may be overridden by provisions of international tax treaties to which Canada is a party. Under these tax treaties, non-residents who carry on business in Canada are taxable only on profits earned in Canada that are attributable to a permanent establishment located in Canada. The emergence of electronic commerce reduces the need for a non-resident to maintain a permanent establishment in order to serve Canadian customers.
Similar concerns arise as well with respect to interprovincial transactions.
Modern communications technology, such as the Internet, may have a significant impact on the determination of a corporation's residency status, potentially resulting in residency and taxation in multiple jurisdictions.
Corporations that are resident in Canada are subject to tax in Canada on their worldwide income from all sources - business, property (e.g., rent from real property), and investment (e.g., dividends and interest). A corporation is generally considered to be resident in Canada if it is incorporated under Canadian law (either federal or provincial) or if its central mind and management is in Canada (generally the place where the company's board of directors meets to carry on the company's business).
Since residence is the basis of Canadian taxation, determining the residence of corporations is critical to Canada's ability to impose and collect tax. This is especially critical where corporations incorporated outside Canada appear to be carrying on business in Canada and seek to be exempted from Canadian taxation under applicable tax treaties.
Before the advent of modern communications technology, the directors of a company usually had to be physically present for board meetings, thus facilitating the determination of where the company's central mind and management was located. In today's environment, with the use of videoconferencing facilities and other communications technology, the effective management of a corporation no longer requires the physical presence of the directors at board meetings. As a result, determining where the central mind and management of a corporation is located is no longer an easy task.
With modern communications technology, it may be impossible to determine conclusively where the central mind and management resides. In what jurisdiction is a decision by conference call or videoconference made? If corporate decisions are determined by resolutions that are circulated among different countries for execution, where is the decision made? Without tie-breaker rules, competing tax jurisdictions may each assert jurisdiction to tax.
There is an increasing risk that MNEs operating effectively with telecommunications equipment may be considered to be resident in multiple jurisdictions by the tax authorities of each of those jurisdictions.
Where such corporations are incorporated in countries with which Canada has a tax treaty, tie-breaker rules will usually resolve this question. In other cases (e.g., where corporations are incorporated in non-treaty countries), residence must be determined through the use of internal domestic rules and concepts, such as the location of the central mind and management.
Concern has been expressed that some countries may be overly aggressive in collecting taxes that "may or may not be applicable," with the result that taxpayers may be in a position of both double taxation and reduced cash flow pending resolution of matters through the competent authority. Businesses may have difficulty functioning in such an environment. It may be appropriate for taxing jurisdictions to provide temporary relief for taxpayers who are facing a double-taxation situation.
8. Revenue Canada should consider, in cooperation with tax treaty partners, ways to shorten the competent authority process in order to eliminate, or minimize, the impact of double taxation on taxpayers.
9. Revenue Canada should consult with the Department of Finance as to methods for ameliorating the potential adverse effects of the competent authority process for Canadian SMEs entering international trade.
10. Revenue Canada should issue an interpretation bulletin addressing the significance of modern telecommunications technology on the concept of residence (including central mind and management).
Electronic commerce raises concerns about where business is transacted electronically and what degree of electronic activity constitutes carrying on business in Canada.
A non-resident of Canada is taxable in Canada on employment income earned in Canada, on profits from a business carried on in Canada, and on the disposition of certain defined property, referred to as "taxable Canadian property."
For the purposes of the Income Tax Act, the concept of carrying on business is deemed under section 253 to include any activity where a person
a) produces, grows, mines, creates, manufactures, fabricates, improves, packs, preserves or constructs, in whole or in part, anything in Canada whether or not the person exports that thing without selling it before exportation, [or] b) solicits orders or offers anything for sale in Canada through an agent or servant, whether the contract or transaction is to be completed inside or outside Canada or partly in and partly outside Canada.
Electronic commerce raises a number of specific issues with respect to what constitutes carrying on business in Canada:
- Where electronic goods or services are provided to Canadian customers by a non-resident, are these goods and services produced, created, or fabricated in Canada for the purposes of the domestic deeming rule?
- Does the location of a file server, another central computer, or a satellite with storage facilities affect the determination of carrying on business and the concept of selling or soliciting orders in Canada?
- In what jurisdiction is an electronic transaction completed, and which jurisdiction has the right to impose tax on the profits earned by the parties to that transaction?
- Is the transaction manager an agent of the non-resident?
In determining the jurisdiction in which a transaction is completed, established legal principles may continue to apply. Among these principles are:
- the country whose laws the parties specified would govern the transaction;
- the country in which title passed to the purchaser would govern the transaction;
- the country in which possession passed to the purchaser would govern the transaction; and
- the country in which risk of possession or ownership passed to the purchaser would govern the transaction.
It is unclear whether the location of a file server or other computer is determinative of, or even necessarily a factor in determining, the situs of a transaction for tax purposes. The computer may simply be a mutually acceptable facilitator for the parties to the transaction, just like a telegraph or telephone service, facilitating communication between the parties. Legal certainty as to the role of the computer is required.
Similarly, a transaction manager may not be considered an agent of either party any more than the telephone company that connects parties is an agent of either. To the extent that the transaction manager's computer plays a more active role in any particular transaction, its role may be as the controlled tool of one party - but not necessarily as an agent. It is arguable that an agent is proactive, while the computer of today can react only in accordance with its programming. With improving technology and the introduction of computer intelligence, a computer may become proactive and, therefore, its role may be viewed differently.
11. Revenue Canada should issue an interpretation bulletin to clarify its position on the circumstances in which electronic commerce activities may constitute carrying on business in Canada.
12. Revenue Canada should examine the appropriateness of the definition of "carrying on business" under the Income Tax Act in an electronic commerce environment, including addressing the roles of various electronic commerce elements (the file server's location, the transaction manager's role, etc.), and, if necessary, convey its concerns to the Department of Finance.
Electronic commerce may make it difficult to ensure, and verify, that the central mind and management of foreign operations (specifically foreign subsidiaries) is not in Canada and that profits from international transactions are properly and timely reported.
With the growth of international trade and electronic commerce, there will be more opportunities and incentives for individuals to shift profits away from high-tax jurisdictions to low-tax jurisdictions.
Recent changes to the Income Tax Act have enhanced Revenue Canada's ability to both identify and trace these profits and to ensure that they are properly and timely taxed. Recent international initiatives, such as the cooperation provisions of the Canada-US tax treaty, also aid in Canada's ability to enforce its domestic law.
A simple mechanism for avoiding income tax in Canada is to establish a foreign sales company. This company would be established in a low-tax jurisdiction and would typically be owned by Canadian residents. This company would purchase products for resale from suppliers anywhere in the world, and would resell the products to its customers. In theory, the profit on the sale would be taxed in the low-tax jurisdiction, and only Canadian sales and related profits would be taxable in Canada.
It could be argued that the profits that arise in this example should be taxable in Canada, especially if the Canadian shareholder is active as the salesperson, and is responsible for both purchasing and reselling decisions.
If all business decisions were made in Canada so that it could be demonstrated that the central mind and management of the business was in Canada, the profits arising from these decisions would be taxable in Canada under general tax rules, on the basis that the company was resident in Canada for tax purposes (resident companies are taxed on their worldwide income).
Situations exist where residents using these types of companies to avoid Canadian tax take the position that there is no obligation to report the foreign profits, and thereby avoid compliance with existing law. Customers of and suppliers to these companies have no reporting obligations to Revenue Canada. The Canadian tax system is really protected only by taxpayer self-assessment.
The advent of electronic commerce does not alter this tax-avoidance technique. However, the Internet will make it easier for those who wish to avoid tax to contact offshore suppliers and customers.
A Revenue Canada foreign reporting form (T106) provides considerable penalties for non-compliance, but it does not ask for specific information with respect to electronic commerce activities (such as URLs and other Web site information of related non-resident persons). New foreign reporting rules are being introduced that will increase disclosure of foreign transactions. Because of the existence of these reporting requirements and the related penalties, it is arguable that most transactions will be disclosed to Revenue Canada and be available for scrutiny.
13. Revenue Canada should issue an interpretation bulletin addressing the significance of modern telecommunications technology on the concepts of residence (including central mind and management) and carrying on business outside Canada.
Is the concept of "permanent establishment" valid in the electronic environment? If it is, to what extent do various components of electronic commerce play a part in determining permanent establishment? If it is not, should "permanent establishment" be replaced with an alternative concept?
Canada's Income Tax Act is subject to the provisions of tax treaties that Canada has entered into with other jurisdictions. One of the major provisions of Canada's tax treaties is that non-residents who are carrying on business in Canada are subject to tax in Canada only if they earn profits that can be attributed to a permanent establishment. In most treaties, a "permanent establishment" means a fixed place of business in which the business of the enterprise is wholly or partly carried on. The term "permanent establishment" is then expanded to include a place of management, a branch, an office, a factory, a workshop, or other tangible place of business activity. However, the concept of permanent establishment generally does not include
- facilities used solely for the purpose of storage, display, or delivery of goods or merchandise belonging to the non-resident;
- the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage, display, or delivery;
- the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise or for collecting information for the enterprise; or
- the maintenance of a fixed place of business solely for the purpose of advertising, for the supply of information, or for similar activities that have a preparatory or auxiliary character for the enterprise.
In addition, if a non-resident carries on business through an agent in Canada, the non-resident is deemed to have a permanent establishment only if the agent habitually exercises an authority to conclude contracts in the name of the non-resident. A broker, a general commission agent, or other agent of independent status who acts in the normal course of its business (e.g., a representative agent of a non-resident) will not be considered to create a permanent establishment of that non-resident.
Tax treaties generally prevent double taxation in three ways:
- by defining who is considered a resident for the purposes of claiming treaty benefits (e.g., the tie-breaker rules in modern treaties solve the dilemma of dual-resident corporations);
- by defining concepts or transactions for the purposes of withholding taxes (e.g., the definition of interest or royalties in modern treaties expands or refines those concepts); and
- by providing for a competent authority dispute resolution process, where an aggrieved taxpayer can request that revenue authorities in each country review a double-taxation situation and provide administrative relief.
Unfortunately, these provisions are not guaranteed to provide relief. Canada still has old treaties without tie-breaker rules. Competent authority relief is an extraordinary remedy and aggrieved taxpayers cannot compel action; they have no meaningful remedy if the competing tax jurisdictions cannot reach agreement.
Once it is determined that a non-resident carries on business in Canada, relief from Canadian tax may be provided under the terms of treaties that exist with other countries. In the context of treaty provisions, electronic commerce raises issues relating to what constitutes a permanent establishment:
- Do treaties provide sufficient direction and definition of various concepts to ensure that double taxation does not occur?
- Is a file server or other central computer a permanent establishment or fixed place of business for treaty purposes? If it is, is it a fixed place of business solely for the purpose of advertising or one of the other activities excluded from the definition of permanent establishment?
- Is the transaction manager a dependent agent of the non-resident for tax treaty purposes?
Treaties do not provide sufficient direction and definition of various concepts to ensure that double taxation does not occur. The OECD is currently studying issues relating to its model tax treaty and is expected to revise that model treaty to reflect electronic commerce issues.
It must be determined whether the traditional concept of permanent establishment can be applied. In the context of electronic commerce, there are at least two possible sites for a permanent establishment.
The first possible site is the location of the customer signing on to the site to conduct the transaction. However, it is arguable that there is no fixed place of business at the customer's location and no required element of permanence to this location. It is simply where the customer logged on to the site to initiate the entire transaction.
The second possible site is the location of the server. It is arguable that this site has many of the traditional characteristics, or near equivalents, of a permanent establishment. It might be a fixed location and one might argue that it is a fixed place of business. If actual orders are conducted on the site, the fixed place of business argument is much stronger than it would be if the site provided only advertising or information. Various transactions could occur through this site, including the authorization of the contract, arrangement and acceptance of the contract, collection of the fees for the transaction, and even digitized deposits to banks. the site has all the characteristics of a centre of activity: it may be fixed (albeit in the form of electronic information located on some form of computer storage medium in a computer in a building) and its programs may give it the ability to act.
Representatives of Revenue Canada should be cautious when meeting with other OECD member countries before contemplating the replacement of fundamental concepts such as residency, source, and permanent establishment. These concepts have existed for a long time, are well known, and have proved their usefulness. Priority should be given to considering these concepts and their applicability to electronic commerce before choosing to pursue alternative or new concepts.
14. Revenue Canada should continue to be active in the workings of the OECD to address electronic transactions. Priority should be given to considering and applying existing concepts to electronic commerce before choosing to pursue alternative or new concepts.
15. Revenue Canada and the Department of Finance should liaise on an urgent basis as soon as the OECD recommendations with respect to changes to the model tax treaty are known. Revenue Canada and the Department of Finance need to address the taxation of electronic commerce, including prompt renegotiations of or negotiating protocols to existing treaties.
16. Revenue Canada should convey to the Department of Finance and other interested departments the Committee's view that government departments should consult with regard to the implications and ramifications to Canada of any change in the existing balance between source and residence taxation.
17. Revenue Canada should continue to participate in the OECD discussions on the status of file servers (e.g., as virtual offices, or virtual employees) and transaction managers for permanent establishment purposes. Revenue Canada should consult with other interested government departments on the ramifications to Canada's tax base.
Canada's domestic tax rules that allocate revenue and expenses between countries may result in the double taxation of electronic commerce transactions.
Continuing developments in electronic commerce have given rise to a number of complex and challenging issues. International taxation laws have generally assumed that a transaction will involve a physical exchange of some sort at some time in the course of the transaction. With the emergence of electronic commerce vendors, customers can conclude agreements without regard to physical or national boundaries.
It is possible that transactions will be subjected to taxation in more than one jurisdiction or that transactions will be subject to differing taxation treatment in different jurisdictions (e.g., subject to business taxation in one jurisdiction and withholding taxes in the other). (For additional comments on the characterization of transactions, see section 4.2.3.)
For example, foreign withholding tax could apply to income received by a resident of Canada and, in the computation of Canadian taxable income, that same income would not be treated as foreign source income. The Canadian taxpayer would then be unable to claim a foreign tax credit for foreign taxes withheld because the Canadian tax system limits the credit to the Canadian taxes that would otherwise apply to foreign source income. Although the Income Tax Act allows for a deduction against income for taxes not otherwise creditable against Canadian taxes, this is only a partial relief from double taxation.
18. Revenue Canada should convey to the Department of Finance the Committee's view that Finance should monitor income-sourcing rules for foreign tax credit purposes to ensure that they continue to provide appropriate relief as electronic commerce grows.
Do the existing interprovincial allocation rules in the Income Tax Act regulations need to be adapted to reflect electronic commerce?
The Income Tax Act contains provisions to allocate taxable income between the provinces for the purposes of levying provincial tax. Three provinces (Alberta, Ontario, and Quebec) collect their own provincial taxes; however, the formula contained in the legislation of those jurisdictions is similar to that contained in the federal Income Tax Act for application to the other provinces.
Regulation 400 of the Income Tax Act deals with the concept of "permanent establishment" as well as the allocation of the taxable income earned by a corporation among different provinces. The regulations contain a hierarchy of criteria that will give rise to a permanent establishment.
The first criterion is that a corporation that has a fixed place of business in a province will have a permanent establishment in that province. If the corporation does not possess a fixed place of business, some of the other enumerated factors that should be considered are the location where the corporation principally carries on its business, the location of the corporation's place of management, and the location where the corporation uses substantial machinery and equipment. In certain situations a corporation may also have a permanent establishment in a province if it carries on business in the province through an agent.
The concept of permanent establishment originally was dependent on geographical location; however, its applicability becomes somewhat uncertain in the world of electronic commerce. A business can now carry on a large number of activities in a province without having any real fixed place of business in that province, thereby making the traditional concept of permanent establishment difficult to apply.
The example of distributing movies over the Internet (see section 4.2.2) could also be applied to Canadian provinces and the interaction between different provinces and whether they will attempt to tax this transaction. All provinces rely on the concept of permanent establishment to tax the income of corporations. If more than one province determines that there is a permanent establishment in that province, the issue then becomes the allocation of income between the different provinces.
The regulations under the Income Tax Act address the allocation issue, and the various provincial regulations mirror the federal rules. These rules allocate a corporation's taxable income between the different provinces that have a permanent establishment based on the average of the following two items:
- the proportion of a corporation's gross revenue that is attributable to a permanent establishment in that province; and
- the proportion of the corporation's salaries and wages that are paid to employees of a permanent establishment in that province.
Where there are no salaries and wages paid in any province, the allocation will depend solely on the revenue attributable to a permanent establishment. (The opposite also holds true where there are no revenues attributable to a permanent establishment.)
If the file server is maintained by an independent corporation so that there are no wages in either the customer's or the server's province, how will taxable income be allocated based solely on the revenue attributable to transaction? Is it appropriate that the revenue be allocated to the province where the server is located?
If the answer to this last question is yes, corporations could decrease their tax liability by locating the file server in a jurisdiction that has no or low rates of income tax.
The situation is even less clear where the file server is not owned by the corporation but rather is leased from an independent third party.
The United States uses similar concepts to allocate income. However, the United States applies a third factor - assets deployed within the state.
Concerns raised by electronic commerce include:
- the implications of the location of file servers;
- the applicability of the concept of permanent establishment (a concern similar to that with the Canadian income tax conventions);
- means of allocating electronic transactions to a permanent establishment; and
- concerns of potentially differing definitions of electronic transactions between the provinces.
It must be determined whether the traditional concept of permanent establishment can be applied. These concerns are similar to those concerning permanent establishment under various international tax treaties (see section 4.2.2.4).
The recent activities and initiatives of various US states to tax electronic commerce transactions is well documented and of concern. Inconsistent treatment of transactions between provinces can be harmful to business and restrict commerce.
The allocation of taxable income between states is based on three factors: salaries, revenues, and assets deployed within the state. The inclusion of the third factor (assets) reduces the impact of the revenue allocation and, to a degree, the distortions that may occur in allocating electronic commerce revenue to a permanent establishment.
19. Revenue Canada should convey to the Department of Finance the Committee's view that Finance and the provinces should review the regulations to the Income Tax Act and the provincial allocation formula to ensure that electronic commerce transactions are fairly allocated. Consideration could be given to allocating taxable income between provinces based on more than two criteria (e.g., salaries, revenues, and assets deployed within the province). Such an approach would affect more than electronic commerce transactions and must be considered in the context of neutrality.
20. Revenue Canada, the Department of Finance, and provinces with their own allocation systems should establish a policy related to file servers and whether these file servers would constitute a permanent establishment for the purposes of the Income Tax Act and the allocation of provincial taxable income.
The increased ability to acquire products directly from non-residents may result in the disappearance of some of the collection points on which commodity tax regimes currently rely to collect and remit tax. Although GST/HST is collected by Customs on goods, unless new collection points are identified for some services and intangibles, revenue authorities will have to rely on purchasers to self-assess and remit sales tax.
Traditionally, a Canadian purchaser who acquires a product from a foreign supplier does so through a wholesaler or distributor located in Canada. The GST regime, like most commodity tax regimes, imposes the obligation on the vendor to collect GST from the customer and remit the tax to the government. Reporting requirements, handling of remittances, and enforcement/verification processes are all currently focused on the registrant suppliers. With electronic commerce, consumers can order directly from foreign vendors through the Internet. Many of these non-residents will not be required to collect consumption taxes of the state where the purchaser is located. A loss of collection points may therefore result.
Under the GST regime, where a business acquires products or services outside Canada and tax is not collected by the vendor or Customs, the business is required to self-assess and remit the required GST, so long as the business would not be entitled to claim a full input tax credit. Where an individual consumer is involved, self-assessment, although technically required under the GST regime, rarely occurs.
As a result, there is a risk that end-use consumers, primarily individuals, will be tempted to purchase products that can be provided electronically from foreign vendors in order to escape paying the GST.
If a government fears that there is a real risk of lost tax revenues because of this non-compliance, it may be tempted to impose onerous obligations on vendors merely because they provide products to consumers within the jurisdiction of that government.
Many parties who use the Internet to market their products are small to medium-sized vendors. Although electronic commerce allows these vendors to compete in a global marketplace, it may be overly optimistic to believe that these vendors can cope with global consumption tax obligations.
Furthermore, if the Canadian government attempts to force all non-residents who market products to Canadian residents to register as collection agents for Canadian consumption taxes, Canada must anticipate that other countries could respond by requiring Canadian vendors to assume reciprocal obligations. This would serve only to dampen the enthusiasm for doing business on the Internet.
Revenue Canada could take steps to increase compliance with and enforcement of the obligation on consumers to self-assess GST. This would include information campaigns as well as increased verification. This increased enforcement could be relatively straightforward in the case of businesses that, if registered for GST, are required to report self-assessed GST at the same time as they file the "GST net tax" return on which they report GST collected and claim their input tax credits. Businesses that are registered for GST are known to Revenue Canada and can be identified for audit verification.
Businesses that have failed to register, or that otherwise refuse to file returns to self-assess GST, present challenges to Revenue Canada that are similar to those already presented by businesses currently in the so-called underground economy. It is a matter of speculation whether electronic commerce will encourage development of, or shrink (as some commentators have predicted), the tax underground economy.
Self-assessment at the level of individual consumers raises different issues. Typically, the amounts that individuals would be required to self-assess would be relatively small. Revenue Canada would, accordingly, be faced with an increased volume of returns and small remittances to process. It would have to assess whether its form- and remittances-processing facilities could accommodate this increase in volume, and whether it would be cost-effective to implement the changes necessary to deal with this volume.
More significant, perhaps, is the possible consumer resistance to increased enforcement programs that target individuals - obligation to self-assess.
As noted, however, even though some traditional intermediary vendors may disappear as electronic commerce expands, other intermediaries will emerge or extend their existing roles to meet the needs of the electronic commerce environment. One approach that has been suggested would be to make financial intermediaries responsible for collecting sales tax on the transactions that they process for payment. Under this scenario, software could be developed that the financial intermediaries would operate in conjunction with their financial processes. Ideally, this approach would provide a seamless approach to the collection of sales tax on the cross-border sale of digitized products. However, such an approach would represent a fundamental shift in the legal liabilities for tax collection, and also raises a number of important issues. For example, to apply Canadian sales tax structures, financial intermediaries would need to know, at the very least, the location of the supplier and the purchaser, the place of supply, whether tax had already been collected by the supplier, the tax status of the purchaser, and the nature of the product.
It may be feasible to work with financial or transaction intermediaries to develop software to facilitate the collection of sales tax on transactions as they are processed. In this way, the intermediaries would not bear an undue compliance burden, or the risk of being liable for failure to collect and remit the correct taxes.
The feasibility of solutions that involve enlisting financial or transaction intermediaries in collecting sales tax for governments will depend on how electronic commerce processes and information-gathering techniques and capacities expand.
37. Even if faced with loss of GST revenues due to the failure of consumers to self-assess GST on their purchases over the Internet, the Government of Canada should avoid the temptation to react by imposing additional onerous collection and registration requirements on electronic commerce vendors.
38. Revenue Canada should consider the feasibility of developing a communication strategy to make small businesses and consumers aware of their obligations to self-assess GST in situations where it will not be collected by the vendor or Customs.
39. Revenue Canada should develop a communication strategy for non-resident vendors to encourage them to register to collect and remit GST. A description of the benefits of registration should be included, along with a commitment from Revenue Canada that registration, in itself, will not be considered to result in Canadian income tax obligations for the vendor.
40. Revenue Canada should consider the feasibility of developing a new consumer self-assessment process that would make it easier to collect small amounts of tax from a large base of taxpayers.
41. Revenue Canada, in consultation with the Department of Finance, should explore the role transaction intermediaries could play in the collection and remittance of tax.
42. Revenue Canada, in cooperation with the Department of Finance, should consult with industry to evaluate the burden that would be imposed on industry by the mutual enforcement of consumption tax collection obligations between jurisdictions before entering into such international agreements.
There may be distortions in the GST results as products that are provided electronically are recharacterized from goods to services or intangible property, or from services to intangible property.
The place-of-supply rules for intangible personal property and services, including the non-resident override, assume an ability on the part of the supplier to determine
- the residency status of the supplier; and
- the place where the supplier performs the service or the place where the intangible can be used.
These can be complex and uncertain determinations. "Non-residents," for example, can be deemed to be "residents" for GST purposes if they have a "permanent establishment" in Canada. Even Canadian residents are deemed to be non-residents for GST purposes where they carry on business through a permanent establishment outside Canada.
In the electronic environment, it is increasingly possible for businesses to fragment their activities and to link remote locations and facilities electronically. With increasing frequency, these different facilities will be located in different jurisdictions. Digitized products or components of products will pass across borders in greater volume and with greater frequency.
As this phenomenon increases, it will become increasingly difficult
- to determine the location where a supply is "made";
- to determine the "resident" or "non-resident" status of the supplier or recipient; and
- to determine where or how the recipient will in fact use or consume the supply.
All three factors affect how the GST place-of-supply rules will apply, and whether an international transaction is brought within the scope of the GST regime. The second factor also affects whether supplies destined for external consumption will be properly zero-rated and relieved from GST.
The Committee is concerned that the current GST rules, when applied in the context of international electronic commerce and business activity, should
- be easy for suppliers to apply and provide the certainty of GST result that businesses require;
- result in functionally similar commodities being subjected to GST in a similar fashion, when provided by traditional or electronic means;
- ensure that GST will appropriately apply to supplies that are for use or consumption in Canada; and
- not result in supplies being subject to GST when they are for use or consumption outside Canada.
Failure to do so could result in
- a loss of GST revenue;
- an adverse impact on the ability of Canadian business to compete in the global marketplace; and
- an adverse impact on the international perception of Canada as a welcoming environment for international electronic business.
These issues must, of course, be viewed in the overall context of the international marketplace. If similar results occur under the commodity tax regimes of all other countries, it is unlikely that Canadian businesses or the Canadian business environment will be at a competitive disadvantage.
As experience accumulates, it may become evident that international negotiation and cooperation between revenue authorities will be required to respond appropriately to the challenges described above.
43. Revenue Canada should convey to the Department of Finance the Committee's view that supplies of intangibles that are provided electronically to non-residents should be zero-rated when no or limited use will be made of these products in Canada.
44. Revenue Canada, in consultation with the Department of Finance, should monitor the GST place-of-supply rules, the tax-relieving rules, and the self-assessment rules to ensure that services and intangibles that are provided to Canadian residents for use in Canada continue to be part of the GST base.
45. Revenue Canada, in consultation with the Department of Finance, should monitor the use of electronic commerce to ensure that the place-of-supply and self-assessment rules continue to operate in a manner such that only those services and intangibles that are consumed or used in Canada are included in the tax base.
Issues and recommendations common to income taxes, consumption taxes, and customs duties and tariffs are dealt with in section 4.5. The two areas most pertinent to customs duties and tariffs are detailed below.
It may be difficult to verify compliance with Revenue Canada customs law in the electronic business environment.
Revenue Canada legislation and policy govern the accounting and reporting requirements of import transactions. These requirements specify the data to be submitted to Revenue Canada to determine the duties owing and to support trade requirements, such as the statistical base of commerce in Canada. The required data include the country of origin (critical to meet the obligations under international trade agreements such as NAFTA) and the identity of the importer and the exporter in a transaction.
Although data are submitted for each import transaction, Revenue Canada relies increasingly on periodic verification (audit after the fact) to verify compliance with importing laws and policies.
Electronic commerce may jeopardize the accessibility of data to support compliance verification, and may bring into question the reliability of data.
Revenue Canada customs legislation contains rules with respect to record availability and retention that are designed to ensure that Revenue Canada has access to the information required to verify the propriety of import and export transactions.
Persons who conduct customs business must keep books and records. The books and records must be in appropriate form and contain appropriate information to enable Revenue Canada to verify the details of the transaction. It is the responsibility of the person (importer, exporter, carrier, etc.) to maintain books and records.
New section 8.1 of the Customs Act, effective January 1, 1998, provides for electronic filing, addresses certain related evidentiary issues, and provides for related regulatory authority. This new authority reflects the trend toward electronic reporting of goods, and is structured after similar GST-related legislation.
Various regulations made under the authority of the Customs Act now require clients who provide information by electronic means to retain records electronically in an electronically readable format for the appropriate retention period.
To support evidentiary requirements, the new Customs Act legislation provides that in the normal course of trade a printout of a form received electronically can be accepted as evidence.
46. Revenue Canada should work with importers and other interested third parties to understand and have input into standards being developed for electronic commerce, especially those standards that establish verifiable data-storage formats and certification authorities.
The transformation of "tangible goods" to electronic products or transactions may result in reduced customs duties and tariffs being levied and collected.
The Customs division of Revenue Canada has responsibilities beyond the levying of duties and tariffs. Other responsibilities (such as control of obscene materials) are beyond the scope of this Committee's mandate and are not addressed in this report.
Customs duties and tariffs are levied on tangible goods. Historically, Canada has taken the position that products transmitted electronically are not goods per se. Hence, they are not subject to the valuation provisions of the Customs Act and are not assessed duties (except if the transmission is associated with an imported tangible good or is an "assist" and thus part of the value for duty). The transformation of tangible goods to formats that are no longer defined as tangible goods may result in a reduction in the amount of duties and tariffs collected.
Since the mid-1980s Customs has worked with the Department of Finance to update the range of customs tariff provisions related to the trade in goods (and software) packaged principally as electronic media to ensure that it is not impeded during entry into Canada. This trend has highlighted the need for importers, exporters, and suppliers to maintain adequate records so that the origin of goods can be confirmed.
Recently, the Canadian government has pursued agreements (e.g., NAFTA) that have reduced or eliminated duties and tariffs on an increasing number of tangible goods. Consequently, the impact of duties and tariffs on electronic commerce transactions will likewise be reduced.
The Committee, while making no comment on the trend to reduce customs duties and tariffs, is of the view that a change in the nature of a tangible good to an electronic product or transaction should not result in tax treatment that differs from that accorded similar products or transactions that remain tangible goods.
47. Revenue Canada should convey to the Department of Finance the Committee's view that the government should state that customs duties and tariffs will not apply to tangible goods transformed into electronic products or services and, in particular, to transactions conducted through the Internet.
48. Revenue Canada should convey to the Department of Finance the Committee's view that Finance should zero-rate tangible goods that are equivalent to those that can be delivered electronically.
Electronic commerce and Internet transactions raise practical compliance difficulties from an evidentiary perspective. Although taxing authorities typically have extensive powers to compel disclosure of information and production of documents, their power exists only within their own jurisdiction. If taxing authorities in one jurisdiction seek international information, they must rely on the cooperation of other jurisdictions under applicable tax treaties. However, where there are no treaties, or where the other jurisdiction does not agree to disclose information (as could be the case, for example, with tax-haven jurisdictions), difficulties will arise.
In the context of customs duties and tariffs, the focus has been and continues to be the importer. If the current customs duties and tariff legislation is amended to include electronic transactions as being taxable similar to tangible goods, issues such as identity and location of the parties to a transaction will be an issue to Customs.
Even where the disclosure of information can be compelled, there will be questions as to the form and admissibility of evidence.
It may be difficult to assess compliance with Canadian tax law when little is known about the extent of business being conducted electronically by residents and non-residents, or about who they are.
A sound tax administration requires knowledge of the persons who comprise the tax base. For consumption taxes they are registrants, for income tax they are filers, and for customs duties they are importers.
To maintain the integrity of the tax system, tax administrations conduct audits and other activities designed to assess risk and ensure tax compliance by preventing fiscal evasion and avoidance. Transactions over the Internet are not excluded from this activity. To assess compliance of these businesses and to better understand and assist businesses, it is important that Revenue Canada gain an understanding of the Internet, who conducts business over the Internet, and the nature of this business.
Specifically, Revenue Canada needs information on which Canadian businesses are carrying on business over the Internet, the volume of this activity, the business sectors involved, and the goods and services traded. To date, electronic commerce is a relatively small part of the economy, but as it grows in significance and as Canada develops a knowledge-based economy, the need for this information will also increase.
The management and administration of the Internet are undergoing dramatic change. The Internet is moving away from its roots in the academic and research community and is becoming more commercial. As a result, the exact nature of new governance and administrative structures is not yet known.
During this period, Revenue Canada will need to adapt its compliance enforcement measures to the online environment. This will involve exploring how the evolving Internet governance structures may be used to assist Revenue Canada in its activities. One possible structure is the domain name registration system. Given the dramatic changes involving the domain name system, however, it is too early to specify the precise mechanisms Revenue Canada will need to fulfil its mandate in the emerging digital economy.
49. Revenue Canada should design and implement programs to test the compliance of businesses conducting commerce over the Internet.
Existing recordkeeping standards may not be sufficient to reflect electronic transactions.
Tax legislation generally contains rules with respect to record availability and retention. These rules are designed to ensure that the tax authorities have the information available to verify the propriety of transactions having an impact on the tax system.
Every person (including corporations) who carries on business and every person who is required to pay or collect taxes must keep books and records. The books and records must be in appropriate form and contain appropriate information to enable the correct amount of taxes to be deducted, withheld, or collected. Revenue Canada takes the position that it is the taxpayer's responsibility to maintain books and records in conformity with industry standards and best practices.
The term "record" is defined in proposed changes to the Income Tax Act and the Excise Tax Act to include "an account, an agreement, a book, a chart or table, a diagram, a form, an image, an invoice, a letter, a map, a memorandum, a plan, a return, a statement, a telegram, a voucher, and any other thing containing information, whether in writing or in any other form." "Any other form" would include electronic format.
Proposed amendments to the Income Tax Act and the Excise Tax Act with respect to electronic records require that every person required to keep records who does so electronically shall retain them in an electronically readable format for the appropriate retention period (which, without permission to the contrary, is a minimum of six years for certain documents and longer for others). The Minister has the authority to waive this condition on the basis of terms and conditions that are acceptable to the Minister.
Where electronically kept records are converted from one format to another, it is the taxpayer's responsibility to ensure that the converted records are accurate and readable. Revenue Canada is prepared to accept records that are converted from one format to another, provided that conversion does not result in the loss, destruction, or alteration of information and data relevant to the determination of taxes payable, collected, or withheld. The need to convert most often arises when changes occur to hardware and software. Where conversion is not feasible and there is no other electronic alternative, then the only options are retaining the records as paper or retaining hardware and software that will read the electronic records.
Legislation gives Revenue Canada the right to inspect, audit, or examine the books and records of a taxpayer and any document of the taxpayer or any other person that relate (or may relate) to information in (or that should be in) the books and records.
Search-and-seizure provisions allow, on the issuance of a warrant, access to books and records where Revenue Canada has not otherwise been successful in obtaining books and records to audit transactions.
Newly enacted and recently proposed provisions deal with foreign-based information or documents. These documents are defined to be those available or located outside Canada and that may be relevant to the administration and enforcement of the Income Tax Act. These documents are required to be provided to Revenue Canada upon receiving notice to provide. Failure to provide documents may preclude admission of those documents at a later date in legal defence of an assessment by Revenue Canada. These provisions allow the continuation of attempts by Revenue Canada to ensure that the offshore activities of Canadian taxpayers comply with existing Canadian law.
Related Customs Act regulations rely on National Standards of Canada to ensure that copies or reproductions made of data otherwise kept on electronic media can be relied on for verification purposes.
Auditing records for certain aspects of electronic commerce may not be difficult. Corporations that want to establish a cost of a product or an expense should maintain records that can be audited, whether those records are tangible or electronic. The basic rule of taxation is that no claim for a deduction or an expense will be recognized unless proof of payment is provided.
On the revenue side, there could be concern that not all revenue will be recognized. There is no rule relating to income that complements the prove-the-deduction rule for costs and expenses. The risk is that taxpayers will maintain detailed records of costs and expenses to ensure deductions, but will keep less detailed records on the revenue side.
In a non-electronic environment, all documents can be examined for their attributes of authenticity and integrity - that is, in original form, containing original signatures, and with signed original backup documents such as order, shipping, and receiving documents and logs. In an electronic world, these types of documents do not exist in the same form, which in certain cases raises concerns about their authenticity and integrity. Accounting software may or may not contain measures to prevent or identify alterations and erasures. It becomes much more difficult to rely on these records without resorting to additional auditing procedures that may not be feasible or timely to conduct.
Revenue Canada does rely on auditing standards developed by the accounting profession. Standards and procedures for electronic commerce are being developed by the accounting profession and may be of assistance to Revenue Canada.
50. Revenue Canada should convey to the Department of Finance the Committee's view that Finance should add to all treaties (through negotiation) provisions comparable to the new exchange-of-information and enforcement rules contained in the current Canada-US tax treaty.
51. The Committee is of the view that the current and proposed record-retention provisions of the Income Tax Act and the Excise Tax Act are sufficient to deal with electronic commerce activities. Existing legislation should be reviewed to assess the impact of new technologies on the law. However, given the pace at which technology develops, amendments to existing legislation should not be worded so as to be applicable to any particular technology.
52. Revenue Canada should work with accounting bodies to understand and have input into auditing standards being developed by those bodies.
53. Revenue Canada should participate in the development of standards to establish verifiable data-storage formats and certification authorities.
54. Revenue Canada should convey to the Department of Justice the Committee's view that Justice should proceed quickly with, and should continue to work with provincial counterparts on, legislation governing the admissibility of electronic records as evidence.
Electronic commerce may have an effect on the search-and-seizure rules and Revenue Canada's ability to locate and access electronic records.
The Customs Act legislates that books and records shall be kept to support customs transactions. Under the Customs Act, importers, exporters, and producers must keep records in Canada. The Minister has discretion only to allow importers, exporters, and producers to keep records at a place other than their place of business. However, the records must be kept in Canada. Regulations provide direction on how records are to be kept.
The Customs Act was amended in 1995 to allow the Minister discretion to permit records to be kept outside Canada by sufferance warehouse licensees, bonded warehouse licensees, duty-free shop licensees, duties relief certificate holders, and persons authorized to account for goods under section 32(6)(a) or 32(7) of the Customs Act.
The Income Tax Act and the Excise Tax Act legislate that books and records shall be kept to support tax return filings. Except with Revenue Canada's permission, records associated with Canadian activities are to be kept in Canada. Records and books of account maintained outside Canada and accessed electronically in Canada are not considered to be books and records in Canada.
Electronic commerce has the potential to alter the type of records maintained and allows those records to be maintained at one or multiple locations outside Canada. Lack of compliance with the tax system may result, and hinder Revenue Canada's ability to locate those records.
At present, Revenue Canada is authorized, when it suspects significant non-compliance with tax laws, to seize books and records. The seizure rules may become inoperative if records are located outside Canada and are readily movable, over the Internet or by other means, to various locations.
A number of tools are available to Revenue Canada to obtain access to documents located in a foreign jurisdiction:
- the information-exchange provisions of tax treaties;
- the provisions of the Mutual Legal Assistance Treaty (MLAT);
- the provisions of the Criminal Code; and
- "requirements" under the Income Tax Act.
The first tool is available for use only with countries with which Canada has a tax treaty containing information-exchange provisions.
Use of the second and third tools is restricted to criminal investigations. Tax evasion is not usually considered a criminal matter for the purposes of the MLAT, but it could be a side effect of a criminal investigation involving crime profits.
The fourth tool, "requirements," is a statutory power under the Income Tax Act that allows a Revenue Canada auditor to send a letter to a third party to an audit or investigation requiring the party to produce documents pertaining to the audit or investigation. Requirements can be used in domestic, non-criminal investigations and audits.
55. Revenue Canada should promote the negotiation of international agreements regarding rights of inspection and audit for business records located in foreign jurisdictions as well as assistance in the case of suspected tax evasion.
INTERNET TAX FREEDOM ACT, U.S., 1998
SEC. 1100. SHORT TITLE.
This title may be cited as the ``Internet Tax Freedom Act''.
SEC. 1101. MORATORIUM.
(a) Moratorium.--No State or political subdivision thereof shall impose any of the following taxes during the period beginning on October 1, 1998, and ending 3 years after the date of the enactment of this Act--
(1) taxes on Internet access, unless such tax was generally imposed and actually enforced prior to October 1, 1998; and
(2) multiple or discriminatory taxes on electronic commerce.
(b) Preservation of State and Local Taxing Authority.-- Except as provided in this section, nothing in this title shall be construed to modify, impair, or supersede, or authorize the modification, impairment, or superseding of, any State or local law pertaining to taxation that is otherwise permissible by or under the Constitution of the United States or other Federal law and in effect on the date of enactment of this Act.
(c) Liabilities and Pending Cases.--Nothing in this title affects liability for taxes accrued and enforced before the date of enactment of this Act, nor does this title affect ongoing litigation relating to such taxes.
(d) Definition of Generally Imposed and Actually Enforced.--For purposes of this section, a tax has been generally imposed and actually enforced prior to October 1, 1998, if, before that date, the tax was authorized by statute and either--
(1) a provider of Internet access services had a reasonable opportunity to know by virtue of a rule or other public proclamation made by the appropriate administrative agency of the State or political subdivision thereof, that such agency has interpreted and applied such tax to Internet access services; or
(2) a State or political subdivision thereof generally collected such tax on charges for Internet access.
(e) Exception to Moratorium.--
(1) In general.--Subsection (a) shall also not apply in the case of any person or entity who knowingly and with knowledge of the character of the material, in interstate or foreign commerce by means of the World Wide Web, makes any communication for commercial purposes that is available to any minor and that includes any material that is harmful to minors unless such person or entity has restricted access by minors to material that is harmful to minors--
(A) by requiring use of a credit card, debit account, adult access code, or adult personal identification number; (B) by accepting a digital certificate that verifies age; or
(C) by any other reasonable measures that are feasible under available technology.
(2) Scope of exception.--For purposes of paragraph (1), a person shall not be considered to making a communication for commercial purposes of material to the extent that the person is--
(A) a telecommunications carrier engaged in the provision of a telecommunications service;
(B) a person engaged in the business of providing an Internet access service;
(C) a person engaged in the business of providing an Internet information location tool; or
(D) similarly engaged in the transmission, storage, retrieval, hosting, formatting, or translation (or any combination thereof) of a communication made by another person, without selection or alteration of the communication.
(3) Definitions.--In this subsection:
(A) By means of the world wide web.--The term ``by means of the World Wide Web'' means by placement of material in a computer server-based file archive so that it is publicly accessible, over the Internet, using hypertext transfer protocol, file transfer protocol, or other similar protocols.
(B) Commercial purposes; engaged in the business.--
(i) Commercial purposes.--A person shall be considered to make a communication for commercial purposes only if such person is engaged in the business of making such communications. (ii) Engaged in the business.--The term ``engaged in the business'' means that the person who makes a communication, or offers to make a communication, by means of the World Wide Web, that includes any material that is harmful to minors, devotes time, attention, or labor to such activities, as a regular course of such person's trade or business, with the objective of earning a profit as a result of such activities (although it is not necessary that the person make a profit or that the making or offering to make such communications be the person's sole or principal business or source of income). A person may be considered to be engaged in the business of making, by means of the World Wide Web, communications for commercial purposes that include material that is harmful to minors, only if the person knowingly causes the material that is harmful to minors to be posted on the World Wide Web or knowingly solicits such material to be posted on the World Wide Web.
(C) Internet.--The term ``Internet'' means collectively the myriad of computer and telecommunications facilities, including equipment and operating software, which comprise the interconnected world-wide network of networks that employ the Transmission Control Protocol/Internet Protocol, or any predecessor or successor protocols to such protocol, to communicate information of all kinds by wire or radio.
(D) Internet access service.--The term ``Internet access service'' means a service that enables users to access content, information, electronic mail, or other services offered over the Internet and may also include access to proprietary content, information, and other services as part of a package of services offered to consumers. Such term does not include telecommunications services.
(E) Internet information location tool.--The term ``Internet information location tool'' means a service that refers or links users to an online location on the World Wide Web. Such term includes directories, indices, references, pointers, and hypertext links.
(F) Material that is harmful to minors.--The term ``material that is harmful to minors'' means any communication, picture, image, graphic image file, article, recording, writing, or other matter of any kind that is obscene or that--
(i) the average person, applying contemporary community standards, would find, taking the material as a whole and with respect to minors, is designed to appeal to, or is designed to pander to, the prurient interest;
(ii) depicts, describes, or represents, in a manner patently offensive with respect to minors, an actual or simulated sexual act or sexual contact, an actual or simulated normal or perverted sexual act, or a lewd exhibition of the genitals or post-pubescent female breast; and
(iii) taken as a whole, lacks serious literary, artistic, political, or scientific value for minors.
(G) Minor.--The term ``minor'' means any person under 17 years of age.
(H) Telecommunications carrier; telecommunications service.--The terms ``telecommunications carrier'' and ``telecommunications service'' have the meanings given such terms in section 3 of the Communications Act of 1934 (47 U.S.C. 153).
(f) Additional Exception to Moratorium.--
(1) In general.--Subsection (a) shall also not apply with respect to an Internet access provider, unless, at the time of entering into an agreement with a customer for the provision of Internet access services, such provider offers such customer (either for a fee or at no charge) screening software that is designed to permit the customer to limit access to material on the Internet that is harmful to minors.
(2) Definitions.--In this subsection:
(A) Internet access provider.--The term ``Internet access provider'' means a person engaged in the business of providing a computer and communications facility through which a customer may obtain access to the Internet, but does not include a common carrier to the extent that it provides only telecommunications services. (B) Internet access services.--The term ``Internet access services'' means the provision of computer and communications services through which a customer using a computer and a modem or other communications device may obtain access to the Internet, but does not include telecommunications services provided by a common carrier.
(C) Screening software.--The term ``screening software'' means software that is designed to permit a person to limit access to material on the Internet that is harmful to minors.
(3) Applicability.--Paragraph (1) shall apply to agreements for the provision of Internet access services entered into on or after the date that is 6 months after the date of enactment of this Act.
SEC. 1104. DEFINITIONS.
For the purposes of this title:
(1) Bit tax.--The term ``bit tax'' means any tax on electronic commerce expressly imposed on or measured by the volume of digital information transmitted electronically, or the volume of digital information per unit of time transmitted electronically, but does not include taxes imposed on the provision of telecommunications services.
(2) Discriminatory tax.--The term ``discriminatory tax'' means--
(A) any tax imposed by a State or political subdivision thereof on electronic commerce that--
(i) is not generally imposed and legally collectible by such State or such political subdivision on transactions involving similar property, goods, services, or information accomplished through other means; (ii) is not generally imposed and legally collectible at the same rate by such State or such political subdivision on transactions involving similar property, goods, services, or information accomplished through other means, unless the rate is lower as part of a phase-out of the tax over not more than a 5-year period;
(iii) imposes an obligation to collect or pay the tax on a different person or entity than in the case of transactions involving similar property, goods, services, or information accomplished through other means;
(iv) establishes a classification of Internet access service providers or online service providers for purposes of establishing a higher tax rate to be imposed on such providers than the tax rate generally applied to providers of similar information services delivered through other means; or
(B) any tax imposed by a State or political subdivision thereof, if--
(i) except with respect to a tax (on Internet access) that was generally imposed and actually enforced prior to October 1, 1998, the sole ability to access a site on a remote seller's out-of-State computer server is considered a factor in determining a remote seller's tax collection obligation; or
(ii) a provider of Internet access service or online services is deemed to be the agent of a remote seller for determining tax collection obligations solely as a result of--
(I) the display of a remote seller's information or content on the out-of-State computer server of a provider of Internet access service or online services; or (II) the processing of orders through the out-of-State computer server of a provider of Internet access service or online services.
(3) Electronic commerce.--The term ``electronic commerce'' means any transaction conducted over the Internet or through Internet access, comprising the sale, lease, license, offer, or delivery of property, goods, services, or information, whether or not for consideration, and includes the provision of Internet access.
(4) Internet.--The term ``Internet'' means collectively the myriad of computer and telecommunications facilities, including equipment and operating software, which comprise the interconnected world-wide network of networks that employ the Transmission Control Protocol/Internet Protocol, or any predecessor or successor protocols to such protocol, to communicate information of all kinds by wire or radio.
(5) Internet access.--The term ``Internet access'' means a service that enables users to access content, information, electronic mail, or other services offered over the Internet, and may also include access to proprietary content, information, and other services as part of a package of services offered to users. Such term does not include telecommunications services.
(6) Multiple tax.--
(A) In general.--The term ``multiple tax'' means any tax that is imposed by one State or political subdivision thereof on the same or essentially the same electronic commerce that is also subject to another tax imposed by another State or political subdivision thereof (whether or not at the same rate or on the same basis), without a credit (for example, a resale exemption certificate) for taxes paid in other jurisdictions.
(B) Exception.--Such term shall not include a sales or use tax imposed by a State and 1 or more political subdivisions thereof on the same electronic commerce or a tax on persons engaged in electronic commerce which also may have been subject to a sales or use tax thereon.
(C) Sales or use tax.--For purposes of subparagraph (B), the term ``sales or use tax'' means a tax that is imposed on or incident to the sale, purchase, storage, consumption, distribution, or other use of tangible personal property or services as may be defined by laws imposing such tax and which is measured by the amount of the sales price or other charge for such property or service.
(7) State.--The term ``State'' means any of the several States, the District of Columbia, or any commonwealth, territory, or possession of the United States.
(8) Tax.--
(A) In general.--The term ``tax'' means--
(i) any charge imposed by any governmental entity for the purpose of generating revenues for governmental purposes, and is not a fee imposed for a specific privilege, service, or benefit conferred; or (ii) the imposition on a seller of an obligation to collect and to remit to a governmental entity any sales or use tax imposed on a buyer by a governmental entity.
(B) Exception.--Such term does not include any franchise fee or similar fee imposed by a State or local franchising authority, pursuant to section 622 or 653 of the Communications Act of 1934 (47 U.S.C. 542, 573), or any other fee related to obligations or telecommunications carriers under the Communications Act of 1934 (47 U.S.C. 151 et seq.).
(9) Telecommunications service.--The term ``telecommunications service'' has the meaning given such term in section 3(46) of the Communications Act of 1934 (47 U.S.C. 153(46)) and includes communications services (as defined in section 4251 of the Internal Revenue Code of 1986).
(10) Tax on Internet access.--The term ``tax on Internet access'' means a tax on Internet access, including the enforcement or application of any new or preexisting tax on the sale or use of Internet services unless such tax was generally imposed and actually enforced prior to October 1, 1998.
TITLE XII--OTHER PROVISIONS
SEC. 1201. DECLARATION THAT INTERNET SHOULD BE FREE OF NEW FEDERAL TAXES.
It is the sense of Congress that no new Federal taxes similar to the taxes described in section 1101(a) should be enacted with respect to the Internet and Internet access during the moratorium provided in such section.
SEC. 1203. DECLARATION THAT THE INTERNET SHOULD BE FREE OF FOREIGN TARIFFS, TRADE BARRIERS, AND OTHER RESTRICTIONS.
(a) In General.--It is the sense of Congress that the President should seek bilateral, regional, and multilateral agreements to remove barriers to global electronic commerce through the World Trade Organization, the Organization for Economic Cooperation and Development, the Trans-Atlantic Economic Partnership, the Asia Pacific Economic Cooperation forum, the Free Trade Area of the America, the North American Free Trade Agreement, and other appropriate venues.
(b) Negotiating Objectives.--The negotiating objectives of the United States shall be--
(1) to assure that electronic commerce is free from--
(A) tariff and nontariff barriers; (B) burdensome and discriminatory regulation and standards; and
(C) discriminatory taxation; and
(2) to accelerate the growth of electronic commerce by expanding market access opportunities for--
(A) the development of telecommunications infrastructure;
(B) the procurement of telecommunications equipment;
(C) the provision of Internet access and telecommunications services; and
(D) the exchange of goods, services, and digitalized information.
(c) Electronic Commerce.--For purposes of this section, the term ``electronic commerce'' has the meaning given that term in section 1104(3).