INTERNET-TAXATION ISSUE GOES INTERNATIONAL

INTERNET-TAXATION ISSUE GOES INTERNATIONAL

We've seen a great deal of controversy recently about whether states should be able to collect sales taxes on products bought over the Internet. But there's been almost no attention to tax plans by foreign countries that would actually discriminate against electronic commerce, imposing taxes that are two or three times the tax on the competing old-economy suppliers.

Here's how it works.Most foreign countries impose a ''consumption tax'' - a sales tax on stages of production. The European Union, Japan and Russia are considering proposals to expand their consumption taxes on electronic commerce.

The EU proposal, which is the most developed, goes far beyond what is being debated in the United States. European countries already impose their consumption tax on foreign physical goods bought on the Internet (a book from Amazon.com). But now they want to go further and tax foreign transmissions of digital content over the Internet, such as electronic music, books, videos, computer software and so on.

Applying consumption taxes to electronic transmissions isn't necessarily a bad idea. After all, most companies accept that the Internet economy doesn't need special treatment in the form of exemption from taxes that other companies pay.

The problems arise because the Europeans apparently will apply their consumption taxes in a way that actually disfavors electronic commerce.

A major problem is that the tax rates on electronic goods would be higher than on comparable physical goods. Electronic transmissions compete with goods that are supplied in tangible form, such as CDs, videos and books. The EU intends to treat digital transmissions as services, resulting in a much higher tax rate than applies to the competing physical products.

For example, in France, a book sold in physical form is subject to a tax of 5.5 percent as a good, but a book sold electronically could be subject to a tax of 19.6 percent as a service.

Similarly, in Germany, many goods are subject to a 7 percent tax when sold in physical form but could be subject to a 16 percent tax when sold electronically. Thus, the European approach would disfavor electronic commerce by imposing higher taxes.

Another problem is that the EU approach distorts the market as between U.S. and European suppliers of electronic goods.

U.S. suppliers probably will face different tax rates depending on the country of the consumer, while a European supplier would pay tax based on its own location. This would hurt U.S. suppliers when they sell to consumers in a high-tax state (Sweden) in competition with an EU supplier based in a lower-tax state (Germany).

Conversely, EU suppliers from high-tax states would be disadvantaged relative to U.S. suppliers when selling to a lower-tax state. Either way, the different tax rules will distort the market.

And last but not least, we can expect that the EU proposal will impose significant administrative costs on foreign e-businesses.

Suppliers will need to register in the EU for consumption-tax purposes, and perhaps register separately in each member state. They will have to identify the consumer's jurisdiction, probably from the consumer's credit-card company. They will have to charge, collect and account for the appropriate tax on sales to EU consumers.

The end result will be a significant compliance burden.

What is to be done? When congressional hearings are held later this year on Internet taxation, the threat of discriminatory and burdensome foreign taxes should be on the agenda.

In the meantime, U.S. companies, working with the administration, should press the EU and other countries to hold off action until an acceptable international understanding can be reached.

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