Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Principal Issues: Taxation of electronic commerce in Canada
Position: General information provided
Reasons: See below
We provided some general information in response to a general inquiry regarding the taxation of electronic commerce in Canada. Below is a copy of our response:
Dear XXXXXXXXXX ,
This is in response to your email of May 5th, 2008 regarding the taxation of e-commerce in Canada.
(a) Business income
As a general matter, it is a question of fact whether a business is carried on in Canada. The essential question is whether Canada is the place of profit producing activity. When making the "in Canada" determination, we consider a number of factors. In traditional forms of business, such as the sale of goods, the most important factor is generally the place of contract. Where the business that is being carried on is a service business, the business is considered to be carried on at the place or the places where the services are performed.
It is our view that a business can be carried on in Canada without the presence of personnel in Canada because the functions of a service business can be performed electronically (the service business can be performed by using the internet to remotely provide a service or a website on a server can perform the essential functions of a service business without the presence of personnel). In evaluating the factors connecting a business to Canada, there are two factors that must be taken into account with respect to web businesses specifically: (1) the presence of digital inventory in Canada; and (2) the use of a ".ca" domain name.
Where a non-resident taxpayer is resident in a country with which Canada has a tax treaty, Canada cedes the jurisdiction to tax to the country of residence unless the business of the non-resident is carried on through a permanent establishment ("PE") in Canada and then, only to the extent the income is attributable to the PE. In this respect, Canada generally follows the OECD Reports regarding Electronic Commerce. As in the OECD Reports, it is our view that because a web site is intangible (no location), it cannot be a PE. However, a computer server on which a website is stored can be a PE if the taxpayer owns or leases the server as long as the server is fixed in place and time and business is carried on through server. In summary, a non-resident who presents a web site to its Canadian customers may be considered to carry on business in Canada through a PE where all of the following conditions are met:
(1) the host server is located in Canada,
(2) the business is being carried on, wholly or in part, through the operation of the web site on that server,
(3) the host server is at the non-resident's disposal,
(4) the host server is more or less permanently linked to a geographic location in Canada, and
(5) the web site is hosted by the particular computer server on a more than merely temporary or tentative basis.
(b) Rents and Royalties
Part XIII of the Income Tax Act (Canada) imposes a tax of 25% on certain types of payments made by residents of Canada to non-residents. In particular, paragraph 212(1)(d), which is the provision in Part XIII that deals with rents, royalties and similar payments, may apply to payments made by residents of Canada to non-residents in the context of e-commerce transactions. The terms "rent", "royalty" and "similar payment" are not defined in the Act, so they have their ordinary meanings. Accordingly, a rent normally refers to a payment that is consideration for the use or the right to use property for a term, whether fixed in time or otherwise determinable, after which the right of the grantee to the property and to its use reverts to the grantor. Royalty normally refers to the share of the revenue or profit based on use or on the number of units, copies or articles sold, rented or used. When referring to a right, the amount of the royalty is related in some way to the degree of use of that right.
If paragraph 212(1)(d) does apply and the non-resident is resident in a country with which Canada has a treaty, the question becomes whether the amount is a "royalty" as defined in the Royalties Article (Article 12). Where a payment is a "royalty" for purposes of a tax treaty, the payment will be subject to the terms of Article 12 and Canada will generally retain its right to tax. If the payment is not a "royalty" for purposes of the treaty and the non-resident payee is carrying on business, then it is business income and subject to the Business Profits Article (Article 7). Indeed, most of Canada's tax treaties contain a rule similar to the one provided in paragraph 7 of Article 7 of the OECD Model Convention, which gives priority to any other Article that expressly deals with the specific type of income concerned.
As you know, the OECD Model Convention defines royalties in paragraph 2 of Article 12 as "payments of any kind received as consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work, including cinematograph films, any patent, trade mark, design or model, plan, secret formula or process, or for information concerning industrial, commercial or scientific experience". This definition or a very similar definition "royalty" is also found in most of Canada's tax treaties. However, in a number of Canada's tax treaties, the definition includes a payment for the use of, or right to use, intangible property ("IP Treaties"). Consequently, a payment by a resident of Canada to a non-resident for the use of, or the right to use, a computer program or digital product will be a royalty for purposes of Article 12 of an IP Treaty and Canada will generally retain its right to tax.
For treaty purposes, the characterization of E-Commerce's payments involves the application of the general principles of characterization set out in the Report to Working Party No. 1 of the OECD Committee on Fiscal Affairs. The cross-border transactions involving the transmission of digital goods or services often make it difficult to determine whether a transfer of product has occurred, whether services have been performed or whether an intangible product has been licensed because transactions involving digital goods and services often blur the lines among different types of income. Briefly, in deciding whether or not payments arising in these transactions constitute royalties, we examine the reason for which the payment was made. In that sense, where the payment is essentially for the use or right to use a copyright or intangible property, it will constitute a "royalty" for the purposes of Article 12. However, the transmission of digital goods and services will generally result in the generation of business profits when the payment is essentially for the acquisition of data transmitted in the form of a digital signal.
With respect to the allocation of income, the Income Tax Act ("Act") provides rules for the calculation of a non-resident's taxable income earned in Canada, including income from a business carried on in Canada. Pursuant to the rules in section 115 of the Act, a non-resident's income from the business carried on in Canada is calculated on the assumption that such business is the non-resident's only source of income and that the only deductions allowed in computing that income are those wholly or partly applicable to the business. Also, the allocation of items of revenue and expense to a non-resident's Canadian business must be made on a reasonable basis. In the context of attribution of income to a PE, the CRA generally follows the OECD Approach regarding the attribution of Profits to PEs, including income from e-commerce businesses.
The CRA has a group which provides strategic direction, coordination and technical support related to electronic commerce issues that will enhance compliance by businesses engaged in electronic commerce or using electronic accounting systems. This group manages the electronic commerce audit function by providing support to the field (including auditors) through technical assistance, tools and training.
Several books and articles have been published in the past few years which discuss and explore the issues of source taxation and the attribution of profits to a permanent establishment. To complete your research, you might be interested to know that the CRA published a bulletin regarding sales tax and electronic commerce (Technical Information Bulletin B-090: GST/ HST and Electronic Commerce ("TIB-090")). Also, you may want to consult some interesting articles in the Canadian & International contexts such as: "Policy Forum: Comments on International Taxation in the Age of Electronic Commerce: A Comparative Study, " by Jinyan Li, (2004), vol. 52, no. 1 Canadian Tax Journal, 106-108; "The Scope and Focus of Jinyan Li's Book," by Dov Begun (2004), vol. 52, no. 1 Canadian Tax Journal, 109-113; "Rethinking Canada's Source Rules in the Age of Electronic Commerce: Part 2", by Jinyan Li, (1999, vol. 47, no.6 Canadian Tax Journal, 1411-1478) & "The Taxation of Business Profits Under Tax Treaties" by Brian Arnold, Jacques Sasseville, and Eric M. Zolt, Eds. (Canadian Tax Foundation).
I hope these comments are of assistance. If you have any further questions, please feel free to contact us.
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2008
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2008