Knowing which businesses will be affected by the digital services tax will be a source of comfort to planners and their SME-owning clients
More and more parts of our life are going digital, and the financial planning sector is not escaping it. Indeed, advisers of all different business models should be embracing it.
The world of tax is itself going through a digital transformation under HM Revenue & Customs’ Making Tax Digital initiative, which is part of the government’s plans to make it easier for individuals and businesses to keep on top of their tax affairs.
You may have also seen that the government recently closed a consultation on the design and administration of a new digital services tax. The DST is intended to be a temporary tax, to be replaced by a comprehensive global solution – to an undoubtedly global challenge. It will have a rate of 2 per cent.
Business revenues only become taxable under the DST where they meet the following two conditions:
- They are revenues attributable to an in-scope business activity;
- The revenues are linked to the participation of UK users.
So what exactly is “in scope”? The good news for most planners is that the thresholds leave small- and medium-sized enterprises out of scope. To become taxable under the DST, a business would need to meet the following conditions on an annual basis:
- Generate more than £500m in global revenues from in-scope business activities;
- Generate more than £25m in revenues from in-scope business activities linked to the participation of UK users (i.e. UK revenues).
Businesses that meet these thresholds will not have to pay tax on the first £25m of their UK revenues.
The thresholds and allowances will apply on a group-wide basis, not on a per-business activity or per-company basis. The government will be considering rules to deal with businesses that cross the threshold from one year to the next.
To minimise the compliance burden, it is proposed the DST will mirror the corporation tax framework. Businesses will make DST payments quarterly according to the same payment schedule as very large corporate quarterly instalment payments.
The DST will apply to relevant revenues received in accounting periods ending on or after 1 April 2020. All companies liable to the DST will be required to notify HMRC of the start of their first DST accounting period within three months of that date.
What business activities are affected?
The government will define the business activities that derive most value from user participation, then impose the tax on the revenues generated from those activities.
It is likely the provision of a social media platform, search engine and online marketplace will be defined as taxable business activities.
Businesses which undertake these activities, most likely across multiple legal entities, will be within the charge to the DST and will pay tax on revenues generated from those activities, whatever the character of those revenues.
For example, a social media platform considered to derive material value from user participation would be within the scope of the tax, irrespective of whether that platform generated revenue through online advertising or subscription fees.
The DST is only intended to apply to specific business activities that derive significant value from user participation. So, for instance, revenues generated from the direct sale of online content (TV or music subscription services; online newspapers), where the business owns the content or has acquired the right to distribute it, are not considered to derive significant value from user participation and will not therefore be in scope of the DST.
The government believes this principle should, in general, extend to online games and console games that allow users to play with/against others on an online network.
However, as there are online games that share similar features to social media and online marketplace business models – those that benefit from the sustained engagement of a large user base encouraged to build networks, communicate and enter into exchanges – the government will reflect further on how they should be characterised.
Other lines that could be considered blurred include the boundary between a search engine and a website.
Here, where a website includes functionality allowing a user to search for other material within that site, if the scope of the search is limited to material that is produced by the business running the website, for example an online newspaper allowing a user to search for old articles, it is still a single site search function and will not meet the proposed definition of a search engine.
The government also acknowledges that providers of websites may be concerned that allowing users to upload content in any form, such as through commenting on an article on the site, might lead them to meet the definition of a social media platform.
In its view, this should not be the case where such a function is only an ancillary or incidental part of the platform’s offering. This view would be reinforced if the website did not meet the other relevant definitions, such as allowing users to build communities with others based on shared interests. And what about the boundary between online content and a social media platform? Well, if a platform is principally designed to allow users to interact with each other, share content and build networks, it is likely the business will meet the definition of a social media platform, even if it displays some professional content as an auxiliary or incidental feature to this overall business activity.
If the platform is principally designed to distribute professionally made content, with the owner of the platform making decisions on acquiring, producing and marketing such content, then it is less likely to fall in scope of the DST as a social media platform. It is possible a platform may be highly integrated and have features matching both business activities.
In this case, the business will need to assess whether the distribution of online content is of an auxiliary or incidental nature, or if it is clearly separable. If it is clearly separable, then the business will need to identify the revenues for each part on a just and reasonable basis.
It is also proposed that there will be a safe harbour, based on a UK and business-activity-specific profit margin. The safe harbour will allow businesses with very low profit margins, or those making losses, to elect to make an alternative calculation of their tax liability under the DST.
The DST has the primary character of a tax on gross revenues. This means the safe harbour cannot become the default way for most taxpayers to meet their DST liability, but rather should be a limited feature of the tax to ensure it does not place disproportionate burdens on those with low margins.
Two possible anti-avoidance provisions have been put forward:
- An anti-forestalling rule designed to address the risk that taxpayers accelerate the recognition of revenue before 1 April 2020, so it is outside the scope of the DST;
- A provision to prevent taxpayers artificially recharacterising revenue streams so they fall outside the relevant business activity. The rule would only apply when, in substance, the revenue remained attributable to the business activities within the scope of the tax, and a main purpose of the recharacterisation was to avoid the DST.
Now, I doubt many readers will be rushing to look for any news on how the government will be taking this legislation forward.
But just knowing the activities of most businesses will not be affected should be a source of comfort to planners and their SME-owning clients.
Tony Wickenden is joint managing director of Technical Connection (a St James’s Place Wealth Management group company). You can find him Tweeting @tecconn