Last month, my husband ran the Detroit Free Press Marathon. During the race, runners left Detroit and crossed the Ambassador Bridge into Windsor in Ontario, Canada, traveled a few miles, and returned to the US through the Detroit-Windsor Tunnel. It’s a nice example of seamless international cooperation, which makes sense given the close relationship between Canada and the US.
But our friendship is now under strain because of a tax. Canada plans to impose a 3 percent digital services tax (DST) on Jan. 1. Americans might not notice the DST as we scroll through apps or click “buy” online, but we would notice the trade war it might prompt.
Over the past decade, absent a global agreement on how best to collect tax revenue from multinational tech firms, countries started planning or imposing DSTs, levies on revenue-generating activities conducted online. They often target large American firms like Google, Facebook, Amazon, Uber, and Airbnb. These US corporations often have subsidiaries headquartered in lower-tax jurisdictions but still do a lot of business within higher-tax countries’ borders. Those countries want to maximize their corporate tax revenue with DSTs.
A global treaty brokered by the Organization for Economic Cooperation and Development (OECD) would seek to replace all of these DSTs in 2025 with a more comprehensive set of corporate tax rules. Participating countries, including Canada, agreed in 2021 to a two-year OECD moratorium on DSTs until the treaty takes effect. This summer, the OECD extended its moratorium by one year.
That’s one year too long for Canada. Deputy Prime Minister and Finance Minister Chrystia Freeland says Canada cannot wait, arguing the planned DST is in the country’s national interest.
Canada’s Parliamentary Budget Office estimates its DST could raise CA$7.2 billion ($5.3 billion) over five years beginning in January. Since the tax is retroactive to 2022, big tech companies would start the year owing over $1 billion. The tax will apply to companies with at least €750 million ($793 million) in total revenue and Canadian digital services revenue exceeding CA$20 million ($13 million). Digital services revenue comes from online marketplace services, online advertising services, and other web-based activities.
The cost of a DST will likely fall on consumers of those services. That could include Canadian sellers using Amazon’s online marketplace or Canadian businesses that advertise online. The Canadian Chamber of Commerce says that Canadians would also feel the DST in the form of higher prices for digital services like renting a movie or booking a vacation cottage.
Some worry that by acting alone and moving ahead with its DST, Canada could put the global treaty effort at risk. And the US is still at work to make its inclusion in the OECD effort possible. Treasury Secretary Janet Yellen has already indicated that it is not ready to sign on to the framework this year. If negotiations take too long, other countries might join Canada and ignore the DST moratorium.
There’s another problem. The US accounts for 73 percent of all of Canada’s exports. Aaron Wudrick, the director of the Macdonald-Laurier Institute’s Domestic Policy Program, notes that the Canadian government “seems willing to jeopardize a trade relationship worth around $2 billion per day to implement a ham-fisted tax that would raise less than $1 billion annually.”
On the other hand, Wei Cui, a tax law professor at the University of British Columbia, told The New York Times that “Canada has come up with a principled way of levying the tax that should not provoke a trade controversy” since Canadian online retailers would be taxed just like American companies.
Big Tech often serves as a handy political boogeyman, but Canada’s DST could affect more than big tech companies. A US analysis of France’s now-suspended DST reveals the retroactive application of the tax “is unusual and inconsistent with prevailing tax principles and renders the tax particularly burdensome for covered US companies, which will also affect their customers, including US small businesses and consumers.”
Indeed, US Trade Representative Katherine Tai has stressed that if Canada proceeds with the tax—which the US argues unfairly discriminates against US companies—the US would be left with no choice but to take retaliatory measures. The feeling appears to be bipartisan. Last month, Senate Finance Committee Chair Ron Wyden (D-OR) and Ranking Member Mike Crapo (R-ID) subsequently urged Tai to make it especially clear that the US will “immediately respond using available trade tools upon Canada’s enactment of any DST.” That could include US tariffs on Canadian exports, anything from steel, cars, lumber, paper, meat, or dairy.
In a trade war, there are rarely winners, only losers. Are we ready for it? Or will the next two months see trade negotiations successfully ease US-Canada tension over a DST? Policymakers might need to pick up their pace. It’s a sprint now, not a marathon.
The Tax Hound, publishing once a month, helps make sense of tax policy for those outside the tax world by connecting tax issues to everyday concerns. Have a question or an idea? Send Renu an email.
