July 12, 2019 12:47PM

Why French and British Digital Sales Taxes Are “Marxist”

Back in 2017, tax expert Professor Michael Devereux claimed that digital services taxes being proffered in Europe were “Marxist.” Not because they were socialist or communist ideas. No, he didn’t have good old Karl Marx’s theories in mind. A limited tax on certain firms’ sales, with those burdened being determined by arbitrary thresholds and industry definitions, instead echoed the spirit of Groucho Marx. He who famously said: “those are my principles, and if you don’t like them, well I have others.”

European countries have long adopted the principle that profits should be the basis for corporate taxation. Those corporate profit taxes are supposedly levied in the country where the profit making takes place. Yet with murkiness about where true profit-making activity occurs for digital firms, given intellectual property and firms’ ability to shift headquarters between countries, the European polities looked willing to throw out their principles altogether upon disliking its results. Their aim instead was higher government revenue from certain firms, and if new, highly targeted secondary tax bases were needed to achieve it, so be it.

That, sadly, is the new reality in France and soon the UK too. The French this week passed a law such that any digital company with worldwide revenue of more than $844 million (and at least $28 million from France) will face a new 3 percent tax on sales generated in France. The UK tax is likewise introducing a 2 percent tax on revenues from intermediate (not retail) sales for “search engines, social media platform or online marketplaces” for those with worldwide revenue exceeding $628 million, and at least $31 million from UK activity.

If this seems arbitrary and highly targeted at companies such as Google, Facebook, and Amazon, that’s because it is. There are big, evident challenges for the current corporate tax system. But rather than debate wholesale change, such as whether a destination-based tax system might be preferable to the status quo (explicitly changing the central principle from taxing where profits are made to where sales occur), the UK and France are instead undergirding their existing approach with a new revenue stream explicitly directed at large, American businesses.

Implementation is almost certain to lead to a reaction from President Donald Trump. Since Europe isn’t blessed with many home-grown tech giants, these digital services taxes are a bit like tariffs. The odds of a tit-for-tat reaction from a US President who self-identifies as “Tariff Man” must therefore be very short. But in truth, these measures won’t just hit existing firms and their consumers. They could have chilling effects on tech innovation too, especially in Europe.

It will be future digital giants – those fast growing, initially low profit-margin (or even loss-making) digital businesses – who will suffer most from a revenue tax. Think Amazon a decade ago. Businesses in those positions may find they have to raise funds just to pay their tax bills. That’s why the UK is already thinking about an exemption for very low profit companies, making the policy even messier. On the margin, still, such taxes could deter firms scaling up or serving new markets due to the compliance cliff-edges. This problem will be much worse if there are very different taxes operating across different countries. It’s almost a fatalistic admission that Europe is completely giving up on ever becoming a breeding ground for successful digital giants.

Sadly, as I’ve written before, new taxes for digital companies are politically popular, and supported by bricks and mortar retail competitors to Amazon, especially in the UK. These firms and prominent politicians have effectively popularized the line that it’s unfair that businesses such as Amazon are not burdened by local business property taxes, unlike “High Street” stores. The result, it is said, is “unfair competition” caused by an “uneven playing field.”

This, of course, completely misunderstands the nature of the competitive process. Companies such as Amazon have developed business models that explicitly avoid the need for high-cost, inner-city premises. That’s one reason why they can offer consumers low prices. To punish them for that with a new revenue tax would be a bit like imposing extra revenue taxes on companies that found ways to automate certain activities to save on labor costs.

That is the key point. The French and UK governments are not thinking through their tax codes from first principles, or trying to develop a neutral framework updated for modern challenges. They are, Groucho Marx-like, trying to justify the revenue grab from large foreign firms by adding new principles to their already hideously complex tax laws.