Monday 21 September 2020 9:31 am

The digital services tax is targeting the wrong companies

Cost-pass-through is a well-established economic theory. It describes what happens when a business changes the price of the products or services it sells following a change in the cost of producing them – be that an increase in procurement or production costs, increased demand, or a tax hike.

When the government announced its ban on letting fees last year, for example, it was widely assumed that landlords and letting agents would simply pass the loss onto tenants through increases in rent. Clearly the government knew this would happen. But it’s a nice soundbite, and movers are grateful for the perceived extra £150 in their pocket.

Read more: Businesses label Google and Facebook as among biggest threats to advertising

The digital services tax (DST), which taxes the revenues of multinational companies where they make them, is likewise a good soundbite. According to the government’s website, it affects only “large multinational enterprises with revenue derived from the provision of a social media platform, a search engine, or an online marketplace (‘in scope activities’) to UK users”.

Tax-avoiding American monoliths finally paying their fair share resonates with the small business owner who once paid more tax than Netflix. The misalignment between the place where tech giants’ profits are taxed, and the place where value is created, no doubt needs to be addressed as the digital economy matures. But bear in mind that cost-pass-through, and it becomes apparent that this tax is far from the right solution.

This paper last week revealed that Google will increase the price of advertising on its platforms in the UK due to the DST. All is fair. Google receives a cost increase, that cost is passed down the supply chain. As a publisher, we pay firms such as Google to promote our content. So that cost is passed onto us.

But the nature of our business is that our content is free to consumers and paid for through advertising. On this basis it is virtually impossible to pass on. In essence, we are paying the DST. 

So much for “large multinational enterprises” paying their fair share. Rather than trillion dollar tech firms bearing the brunt, far smaller, innovative businesses navigating a pandemic are paying it for them. The DST hurts the wrong businesses and stifles our ability to develop and grow.

This is not the fault of Google or any other tech firm – far from it. Within a free market, it is of course a platform’s prerogative to price how it likes. But when businesses like ours are so reliant on a handful of platforms subject to the DST, we cease to operate in an economic system in which prices are determined by unrestricted competition between businesses. 

Our prices are determined by punitive government policy – an undemocratic market-within-a-market over which we have no say. Certainly not what one would expect from an erstwhile libertarian like Prime Minister Boris Johnson.

But the solution is not a laissez faire free-for-all whereby these firms send their profits to the US – however much Trump may believe that. The solution, ironically, is what the tech titans themselves are arguing for: tighter global, rather than national, regulation.

The OECD is currently hosting negotiations with over 130 countries that aims to adapt an international tax system, whereby relevant businesses would pay some of their corporate income taxes where their consumers or users are located. 

The European Commission is waiting on the outcome of this – to see whether the OECD will reach an international agreement on the taxation of the digital economy – before restarting its own moves towards a DST.

One can not help but feel we undertook our own DST experiment in a bizarre display of our newfound independence, when it is patent that revenue taxation is a crude proxy for corporate income tax on larger companies.

Read more: Budget 2020: Chancellor introduces digital services tax

Indeed, reading the small print of the policy makes matters only worse. “The government is committed to dis-applying the DST once an appropriate international solution is in place”, it says. Further, “this measure is not expected to have any significant macroeconomic impacts”.

So there you have it. A temporary solution that raises a negligible amount for the exchequer at the expense of small businesses. That’s not such a good soundbite, is it?

Nat Poulter is chief operating officer at Jungle Creations

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.