Canada’s Digital Services Tax Move Still Sets Nothing in Stone

The controversy between Canada and the US over Canada’s proposed digital services tax has been building since 2021 and came to a head on Nov. 28, when Canada introduced draft legislation to enact the tax.

But there is little new information in the bill, C-59—it’s merely the latest chapter in a long-running, and in some ways perplexing, conflict between the two countries.

The Canadian government first proposed a DST in 2020, following a model that had already been implemented by other countries such as the UK, France, and India. Canada’s DST would be a 3% tax on certain Canada-derived digital revenues of large businesses.

The proposed tax was never popular with the US, but immediate concerns abated after the release of the OECD’s Pillar One initiative in October 2021. Canada had agreed not to enact a DST, pending Pillar One’s implementation by the end of 2023.

Nonetheless, Canada continued to work toward enacting the DST in 2024 (with retroactive effect back to 2022) in case Pillar One wasn’t implemented. The government released several drafts of proposed legislation, though with no changes in the tax’s fundamental features.

Tensions over the DST rose dramatically this July, when most of the participating countries led by the Organization for Economic Cooperation and Development agreed to postpone the Pillar One implementation deadline to the end of 2024 and extend the moratorium on new DSTs. But Canada didn’t approve the delay or commit to deferring its DST for at least another year.

Canada doubled down on its position in August by releasing a further draft of its proposed DST legislation that contemplated the possibility of it coming into force on Jan. 1, 2024.

Since the release of the August draft, many voices—including the US Ambassador to Canada, the US trade representative, members of Congress, and business leaders from both countries—have urged Canada to back off or risk a costly trade war with the US.

The Canada-US conflict is perplexing for two reasons. First, although the Canadian government has complained about the unfairness of Canada being denied DST revenue that is already being collected by other countries, the amount of tax involved is modest. The Canadian government’s own estimates showed annual DST revenue of only around CA$900 million (about $662 million). It’s unclear why Canada would risk a serious conflict with the US over that amount.

Second, the Canadian government has given mixed signals on whether and how soon it intends to impose the DST. The possibility that Canada would put aside the DST appeared likelier with language in the 2023 fall economic statement that Canada would continue to work with its international partners to resolve the delay in implementing Pillar One.

But the government introduced bill C-59 to implement the DST later that month, and the following days saw both the prime minister and finance minister reiterate their commitment to proceed with the tax.

Bill C-59 is very similar to the government’s earlier drafts, so the contents don’t provide any new cause for US irritation. But its status as legislation before parliament could be viewed as a provocative step toward implementation.

The text of the bill itself may provide some clues as to the government’s plan. Compared with earlier drafts of the DST, the government has given itself the ability (by regulation) to specify various parameters of the tax, including the first year for which DST will become payable and the tax rate that will apply for the retroactive pre-enactment years.

Also, it appears the regulations are allowed to specify different such dates and rates for different taxpayers, which is unusual. This all suggests the government may foresee further, possibly quite granular, negotiations about to whom, when, and how the DST will apply if enacted.

There should be greater clarity on the DST in the near future. With the start of 2024 around the corner, we will soon learn what the Canadian government is really thinking.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Nathan Boidman is senior counsel at Davies Ward Phillips & Vineberg, focused on international tax, cross-border M&A, financings, joint ventures, partnerships, and business trusts.

Michael N. Kandev is partner at Davies Ward Phillips & Vineberg, advising corporations and individuals on the tax aspects of their transactions in Canada and internationally.

Ian Caines is partner at Davies Ward Phillips & Vineberg, focused on domestic and international income tax law, M&A, reorganizations, financings, investment products, and tax disputes.

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