Growing Trends in the Digital Economy: Japan and the Cross-Border Supply of Electronic Services
The Destination Principle
The fusion of globalization and digital commerce has sparked a trend in the world of indirect taxation. Effective October 1, 2015, Japan became the latest country to adopt the “Destination Principle” for the cross-border supply of electronic services, joining others such as the European Union and South Korea in this practice.
Under the “Destination Principle”, supplies of electronic commerce are subject to the applicable tax (VAT, Goods/Services Tax, or Consumption Tax) in the country in which the recipient of the supplies is located. In this manner, tax is levied at the place of final consumption, thereby creating harmony and competitive equality among foreign and domestic corporations.
October 1, 2015: Japanese Consumption Tax (JCT) Goes Into Effect
Beginning on October 1, 2015, a foreign business supplying electronic services to Japan must register to collect and remit Japanese Consumption Tax (JCT). For electronic services, Japan now considers the place of taxation to be “the place of domicile or residence of the person (or the place of head or principal office in the case of a corporation) who received the services.”
Under Japanese law, “electronic services” are defined as services that are “supplied via electronic and telecommunication networks, excluding those ancillary to other transactions (such as the notification of the results of other transactions)”. This definition includes the sale of electronic books, music, games, software, as well as online advertising, and even virtual language courses. Electronic services that are excluded include online banking, asset management, and basic electronic communication.
There is a small business threshold of 10 million JPY that must be exceeded before a business is required to collect and remit JCT. For example, a business with taxable sales not exceeding 10 million JPY in the base period for the taxable period is exempt from JCT obligation.
B2B vs. B2C JCT Taxation Schemes
In Japan, the taxation scheme for the cross border supply of electronic services distinguishes between business–to-consumer (“B2C”) transactions and business-to-business (“B2B”) transactions. For B2C transactions, a foreign business supplying electronic services to a Japanese customer is required to collect and remit JCT. For B2B transactions, however, a “Reverse Charge” will apply. Under this mechanism, the transaction is subject to JCT, but the foreign business is exempt from the obligation to pay JCT.
Instead, the Japanese business purchaser will self-assess and remit JCT to Japan’s National Tax Agency. To distinguish between B2B and B2C transactions, Japanese law defines B2B transactions as “services that are, among electronic services provided by foreign businesses, normally limited to businesses, in respect of the nature, terms, etc. of the services provided.”
Who Will Be Next to Change Taxation Rules?
The trend whereby national tax authorities amend the place of supply rules to accommodate the changes presented by the digital economy is showing no signs of slowing down. For instance:
- Discussions to implement a VAT system and possibly similar place of supply rules in Egypt have been heating up in recent weeks.
- New Zealand and Australia are widely expected to implement their own version of this taxation scheme sometime in 2016 and 2017, respectively.
As the digital economy continues to grow, there’s little doubt more nations will enact similar measures to capture valuable tax revenues from foreign business supplying electronic services domestically.
Sovos Compliance continues to closely monitor these changes as they progress through their respective national legislatures. Follow them with us!
