ANALYSIS: VAT - Virtual Added Tax?

Delegates at the OECD (Organisation for Economic Cooperation and Development) summit have already resolved in broad terms to avoid any discrepancy between revenues from online and real world taxes. But there are some areas where the old rules don't apply.

Real world taxes are based on the idea of a physical presence: you are charged where you pay, where you live or where you eat. When applied to the Internet, a physical point of sale is not so clear-cut. Delegates will have to decide whether "physical presence" simply means the location of the server hosting a Web page, or whether it includes an Internet service provider's (ISP) hosting service, or the PC that displays a trading interface.

Mike Perkins, principal manager, International Taxation Group, Deloitte & Touche, wants just the content server to be taxed. He says ISPs should be excluded - on the grounds that they do not lease equipment, they provide a service.

Perkins told Silicon.com that all the options would reduce government revenue, as companies moved their equipment offshore, but that "physical presence" was the only realistic definition. "It would take too long to create a new model for taxation that does not focus on physical presence," he said, "and besides, online communications are not yet mature enough to start making changes."

But he conceded the 'physical presence' model was unfair on telcos and other companies who cannot move their equipment to an area with low taxes.

This issue is too complicated to be resolved in a single summit. The best we can hope for is a commitment to change. More pressing is the issue of VAT, which really could be resolved this week.

Only European countries charge VAT on sales. So a European consumer who wants to buy a computer online is more likely to choose a Web site hosted in the US, where they can get the same product for a lower price. Andrew Nutman, Senior Manager, Indirect Taxation Group, Deloitte & Touche, told Silicon.com that start-up companies were already moving to the US to set up online retail operations, causing European countries to lose out on both VAT and corporate taxes.

Nutman said the OECD was "considering something radical" for taxing business to consumer transactions. The main options are getting consumers to assess themselves - although the Swiss attempt to do this was unsuccessful; or getting financial intermediaries such as Visa to withhold part of the payment as tax. It is also possible that the minimum level of VAT (£18 in the UK) is removed altogether, to make Europe more competitive.

Of course the core problem behind these issues is that there are so many different tax authorities across the world. It is unrealistic to expect vendors to register with each one and yet it will take years to create international standards. So the only realistic solution seems to be a tax model based on physical presence, despite the fact that umbrella definitions are always unfair on some people.

But for the very long-term, there is one solution that will probably not even be mentioned at the OECD summit. Perkins said that HM Customs & Excise was considering an automated tax collection scheme for the Internet. This would work as a huge database, which included details of all the discrepancies between national tax systems, and tracked ecommerce transactions accordingly.

Customs & Excise is not yet ready to talk about this option. But it is a strong argument against disrupting the current systems.