Why a “Netflix Tax”, in the form of GST, might be coming no matter who becomes Prime Minister

A Conservative Party video suggests Liberal leader Justin Trudeau (left) and NDP leader Thomas Mulcair (right) are eager to impose a "Netflix Tax". But does the application of GST, which the incumbent government expressed interest in, count?

A Conservative Party video suggests Liberal leader Justin Trudeau (left) and NDP leader Thomas Mulcair (right) are eager to impose a “Netflix Tax”. But does the application of GST, which the incumbent government expressed interest in, count?

During an election campaign, one gets used to hearing all kinds of absurd, over-the-top rhetoric from the professional manipulators otherwise known as party leaders and their campaign staffs.  So, when Conservative prime minister Stephen Harper vowed on the campaign trail this past week to block Liberal leader Justin Trudeau and NDP leader Thomas Mulcair from imposing a “Netflix tax”, it was fairly easy to brush it off initially as yet another bit of daft nonsense one can expect from a mid-summer election campaign.

Out of curiosity, though, I decided to look up “Netflix Tax” on Google to see if any other jurisdiction had ever imposed one. Sure enough, just last month, the City of Chicago announced a nine-percent tax on “electronically delivered amusements” that many are referring to as a “Netflix Tax”. It comes into effect Sept. 1, and is intended to improve the dreadful state of the city’s finances.

Then another case caught my eye, this one from Australia, whose conservative Liberal-National governments under prime ministers John Howard (1996-2007) and Tony Abbott (2013-present) have long been a source of ideas and advice for the Conservative Party here in Canada.

This past May, the Australian federal treasurer, Joe Hockey — a man whose name alone would make him a star here in hockey-mad Canada — announced that Australians will need to begin paying 10-percent GST on international digital purchases beginning in 2017. As the Australian media company News Limited reported:

The move, dubbed the “Netflix tax,” would see the GST expanded to cover digital purchases from overseas companies, potentially raising the price of Amazon e-books, Steam online games, Tidal music subscriptions, and apps from Microsoft and BlackBerry by 10 per cent.

The scheme would not begin until July 2017, however, and would not affect international companies already collecting the GST from Australian consumers, including Apple and Spotify.

Federal Treasurer Joe Hockey said the move would “level the playing field” for Australia-based businesses delivering digital content.

“It is unfair that overseas-based business selling services into Australia may not charge GST when local businesses have to charge GST,” Mr Hockey said.

“A local business that employs Australians, pays rent in Australia, pays tax in Australia, and helps build our economy is disadvantaged by the current system.”

Similar issues have been raised here in Canada in the recent past. The Canadian government’s own 2014 Budget pledged to look into “cross-border tax integrity issues, such as ensuring the effective collection of sales tax on e-commerce sales to Canadians by foreign-based vendors.”

As the Globe and Mail reported in January 2015, one of the vendors that could be among the targets of this 2014 budgetary vow could be Netflix, which officially is not “carrying on business” in Canada and is therefore not compelled to collect GST.

But there is a difference between not being required to collect GST and being GST-free. As the Globe and Mail report went on to note:

In theory, when foreign companies don’t charge sales tax, it is up to each consumer to self-report digital purchases from abroad and pay HST or GST, though virtually no one does.

“These digital supplies are already taxable,” Rogers writes in a submission to government, decrying “the competitive disadvantage in the digital economy for Canadian domestic suppliers which must charge GST/HST to Canadian consumers.” Rogers, for example, recently launched a streaming service called Shomi, which costs $8.99 a month, plus tax.

And it is an idea that has had its fans within the incumbent government:

The Organization for Economic Co-operation and Development agrees the best solution is to compel companies to register and collect sales taxes in the countries where they make sales. Such measures are part of a larger OECD tax plan presented to G20 finance ministers in the summer of 2013, aimed at combatting tax-base erosion and profit-shifting.

In Canada, the notion of taxing digital sales from abroad gained traction with the government in the fall of 2013, under then-finance minister Jim Flaherty. But it burst onto the European Union’s agenda more than a decade earlier over fears that companies might move offshore to stay competitive.

The notion of expanding GST to include digital services such as Netflix is not necessarily a bad one. Like many affluent nations, Canada has a growing population of pensioners, in absolute numbers and as a percentage of the population, who will become more reliant on costly government services at the same time as their income tax and sales tax payments drop significantly.

For instance, Statistics Canada data shows that in households where the key financial decision-maker was between the ages of 55 and 64, the average household income taxes paid were $16,189 in 2013. In households where the key financial decision-maker was aged 65 or older: just $8,097.

Other wholly or partially taxable household expenditures that were, on average, more than $1,000 lower in 2013 among the 65-plus group than they were among the 55-to-64 group: total food expenditures (-$1,668), shelter (-$3,838), household operations (-$1,028), clothing and accessories (-$1,286), transportation (-$4,624), recreation (-$1,483) and education (-$1,088). Overall, total household consumption was on average $16,810 lower among the households where the key financial decision maker was aged 65-plus than it was when that decision-maker was aged 55 to 64.

If Canada is going to have a prosperous economy in the future, it also needs a healthy and well-educated workforce; it needs transportation systems that gets goods to market and both imports and exports to where they need to go promptly; it needs a border that is secure against various threats, but at the same time not delaying harmless people or goods needlessly; it needs local roads and public transit systems that get employees to and from work and customers to and from businesses; and it needs places where people can leave their children while they work, even if this is evening or weekend work. All of that is going to require government spending to at least some degree.

At the same time, as the fierce response to even a modest one-point rise in the Manitoba provincial sales tax in 2013 showed, there are high political costs to be paid for raising the rates that show up on the sales receipt.

Therefore, much like the airlines, governments have high fixed costs and yet struggle to exert pricing power. Thus the path of least resistance to raising the revenue that is needed to pay the bills for the services that people won’t tolerate being deprived of is to move sideways instead of tackling the issue head-on: by eliminating exemptions and giveaways, charging more fines, unbundling the core product, packing people more tightly into existing space, and replacing less complicated forms of human labour with technology wherever possible.

As the population ages, making the revenues add up to what is needed to pay for the bills that Canadian governments cannot easily get out of paying will only get more difficult. Whether this October’s election produces a Prime Minister Harper, a Prime Minister Mulcair or a Prime Minister Trudeau — or, though the odds are extremely long, a Prime Minister May —  the urge to apply GST to Netflix and other foreign-based digital services might be virtually impossible to resist.

Taxes, accountability and public order

It’s the end of April again, which means that Canadians from coast to coast are rushing to complete their tax returns by the May 1 deadline.

Though it is popular to rail against taxes, there is reason to believe that taxes tend to be higher under governments that are more responsive to voters than under less responsive governments.

There is also an interesting tendency for countries with lower taxes to end up spending more on law and order — and not just because it’s a core service that has to be funded.

The first graph below shows a robust relationship between taxation and accountability. Countries in the lower left hand corner, such as South Korea, Greece and Japan, tend to have relatively low tax loads. However, they also have low Voice and Accountability scores*, a measure of the extent to which the public has a role to play in setting political priorities and holding legislators accountable.

In the opposite corner, there are countries like Sweden, Denmark and Belgium. These countries do have fairly high taxes. However, the governments of these countries also tend to do better in providing citizens with a voice in the public policy process, and with the tools to hold legislators to account.

Some of these differences between countries can be explained in part by population size — at similar levels of development, smaller countries tend to be less tolerant of corruption than larger ones, and their governments have fewer citizens to divide costs among.

However, an analysis of the relationship between tax loads and Voice and Accountability scores among these countries suggests that 52 percent of the difference in tax loads can be explained by differences in Voice and Accountability scores.**

This suggests that the more leeway they give citizens to influence the political process and to hold legislators accountable, the more likely governments are to have to bear higher costs as a result.

The lesson here is that governments can keep costs down, or they can be responsive to the public, but it is very difficult for them to do both.

The relationship between taxes (as a percentage of GDP) and World Bank Voice and Accountability scores. The higher a country is positioned in the chart, the higher its tax load. The further right it is positioned, the better the public is able to influence the political agenda and hold legislators to account.

The relationship between taxes (as a percentage of GDP) and World Bank Voice and Accountability scores. The higher a country is positioned in the chart, the higher its tax load. The further right it is positioned, the better the public is able to influence the political agenda and hold legislators to account.

The second graph shows that a relationship exists between overall taxation levels and the percentage of the budget that various countries devote to maintaining public order and safety.

In the upper left hand corner, one finds that Sweden, Denmark and France spend relatively small amounts on public order and safety in spite of their higher tax loads. By comparison, the U.S. and South Korea, in the lower right hand corner, devote considerably more resources to public order and safety when crafting their budgets.

One possible explanation for this difference between countries is that spending on public order and safety tends to get swamped by spending on other priorities in countries with higher tax loads. Indeed, 36 percent of the difference in government spending on public order and safety can be explained by the overall tax load.**

However, there is also strong evidence that countries that spend more on social protection measures — such as social assistance, child care and work training programs — tend to end up spending less on maintaining public order and safety.*** This lends credence to the idea that creating a healthy, educated and productive population is an effective way of reducing crime.

The relationship between taxation (as a percentage of GDP) and public order and safety measures as a percentage of government spending. The higher a country is situated in the graph, the higher its tax load. The further to the right it is located, the larger the share of the budgetary pie dedicated to public order and safety.

The relationship between taxation (as a percentage of GDP) and public order and safety measures as a percentage of government spending. The higher a country is situated in the graph, the higher its tax load. The further to the right it is located, the larger the share of the budgetary pie dedicated to public order and safety.

Sources: OECD, World Bank. The relationships discussed above are statistically significant.

* – Definition of Voice and Accountability: “The Voice and Accountabilty index is comprised of indicators that measure political rights, civil liberties, fairness and regularity of elections, and the freedom of the press.”

** – Based on a curve estimation linear regression

*** – Pearson correlation: -.615, 99% confidence (i.e., there’s a strong correlation between the two variables).