Amid an economic fallout, the Kingdom pushed through a regulation to expand its tax base, but enforcing it is another matter

After some years of contemplation and planning, the Value-Added Tax (VAT) on Non-Resident E-Commerce Providers sub-decree was passed early this month but its rollout is one worth watching.

For starters, the regulation’s definition for e-commerce activities is exceptionally wide – consisting of purchasing, selling, leasing, or exchanging products or services including electronic commercial and civil commercial activities.

It speaks of software upgrades and maintenance, digital product downloads, website hosting, advertising, online shopping and streamed web-based broadcasting on a real-time basis, to name a few which are incidentally common activities users engage in on a daily basis.

The other conundrum is the obligation of foreign players who provide digital services and products or e-commerce service to Cambodians to register with the General Department of Taxation (GDT) in order to submit VAT returns and pay VAT capped at 10 per cent.

This is if their annual turnover exceeds the threshold currently in place for self-assessment taxpayers, explained Clint O’Connell, partner and deputy managing director of DFDL Cambodia, a legal, tax and investment firm.

At this point though, it is unclear whether the GDT would impose the annual turnover threshold for small taxpayers (about $62,500 per annum) or medium taxpayers ($250,000 per annum) on non-residents providers.

Typically, a limited liability company registered with the Ministry of Commerce (MoC) automatically becomes a medium taxpayer, regardless of its annual turnover, O’Connell said.

“[However] we have yet to see how this will apply to offshore entities. We expect to see a clarification in the new Prakas,” he said.

Pursuant to that, the obligation of registering with GDT, a department under the Ministry of Economy and Finance (MEF), means that non-residents would bypass the MoC, which is seen as a breakaway from the normal practice of setting up a business in the Kingdom.

But even without a physical presence, non-residents would have to weigh up the cost, seeing that they are required to register with the GDT for tax purposes.

`Had it good for too long’

While it is understandable that Cambodia aims to collect a handsome tax revenue from technology-based companies, particularly big players such as Google, Facebook, Netflix, Microsoft and AliExpress, industry experts say the enforcement process might be all too onerous, to say the least.

It is evidenced by years of negotiations among the Organisation for Economic Cooperation and Development and EU and multinational tech corporations to reach a concensus on corporate income tax, to no avail.

Still, it did not stop Canada and France – annoyed by the dallying tactics of tech companies – to go on their own to implement digital tax laws to compel the firms to pay a levy on the billions they make on its citizens.

Granted, their tax law is different from what Cambodia has put on the table, that is to collect VAT on cross-border digital activities but the motive is all the same.

“It is only fair these firms started paying some tax as they have had it good for too long, evading tax in most countries where they have a strong presence,” David Van, senior associate public private partnership of Platform Impact Co Ltd asserted.

Neigbouring countries such as Thailand, Malaysia, Singapore, Vietnam, Indonesia and the Philippines have enacted similar regulations since e-commerce and online businesses became a norm, he cited.

“[Although] the peculiarity of how governments define the amount to be taxed would remain a challenge,” Van said.

`Unregulated marketplace’

The sub-decree drawn up under the Law of Taxation will likely stem the erosion of its tax base as digitalisation promoted the ease of shopping in an increasingly tech-savvy global population, in which Cambodia is no stranger.

According to market and consumer data analyst Statista Inc, e-commerce revenue in Cambodia is expected to hit $22 million this year, with average revenue per user anticipated around $40.

By 2025, projected market volume could come in about $313 million, based on an approximate nine per cent compound annual growth rate for revenue from 2021 to 2025.

The data provider also found that user penetration would be nearly 33 per cent this year, growing to 44.1 per cent by 2025.

The chart shows the result of a survey conducted on youths based on their usage of digital platforms, goods and services.

Source: Telecommunication Regulator of Cambodia

This is backed by a rapidly increasing subscription rate where in the first quarter of 2021, state-run Telecommunication Regulator of Cambodia had already registered over 17 million subscribers, a figure that is closely catching up to last year’s record subscription of 20.3 million users.

It is on this basis, complemented by a growing middle-income population and rising disposable income, that the e-commerce sector has burgeoned.

Over time, online sales driven by entrepreneurship – given the historical ease of setting up an unregistered business – gave rise to what has basically been an “unregulated marketplace”.

Anthony Galliano, CEO of financial services firm Cambodian Investment Management Co Ltd noted the number of online sellers, “touting anything from cosmetics, clothing, food, healthcare to real estate products”, has grown phenomenally in the Kingdom, with most using social media platforms such as Facebook and LinkedIn.

“Online vendors have generally operated in an unregulated arena, most without business or other licenses, and therefore avoiding tax.

“Due to very limited policing of the market, it has exploded, not only in the scale of sales volume, but the number of participants,” he said, pointing out that this was primarily due to the meteoric use of social media, now not only social but as an e-commerce platform.

“Given the past unregulated nature of the online marketplace, brick and mortars businesses have unfairly suffered as online retailers have a much more competitive cost structure, especially if they have avoided tax,” he told The Post.

Serious blow to local company’s bottom line

Hence, the concern that while the sub-decree applies to big techs, it could also capture economic activities across the country, including consumers and smaller firms later.

“… it is also likely that other countries in the region will apply something similar in their jurisdictions, making it even harder [or potentially impossible] for Cambodian firms to be competitive in foreign markets,” said Deborah Elms, executive director of Singapore-based Asian Trade Centre Pte Ltd.

Her firm, which she founded, works with governments and corporates in Asia Pacific where it advocates and educates trade matters.

Given the law’s broad language, Elms said it could easily capture all digital activities and include VAT payment on any service valued at more than free as well as every single cross-border e-commerce good.

Source: Telecommunication Regulator of Cambodia

“[And] every firm that might make a single sale into Cambodia would have to be registered to pay Cambodian VAT every month [but] the logistics of this are so complex that most firms would simply `shut off’ Cambodia as a possible delivery market, I would assume,” she opined.

She felt that the net result would be that Cambodians might end up with a “significantly smaller assortment of goods and services” in the market and, whatever foreign products or services remain in demand, would cost a bit more.

Elms said firms would not just pass along the VAT charges, but the compliance costs from managing their operations, suspecting that these fees could be significant, especially at the outset.

“Given how many Cambodian firms, including the smallest companies, rely on foreign goods or services ranging from parts and components to cloud services and platforms for everything from marketing to sales of their goods and services, this would be a serious blow for the bottom line to many companies,” she noted.

Cost to banks?

Meanwhile, a tricky portion involving banks is at play. Currently, banks form a class of taxpayers that provide non-taxable supplies of VAT and do not charge VAT on their services.

Thus, they cannot claim VAT input credit.

Assuming they engage in a business-to-business transaction with a non-registered supplier, they would have to account for the 10 per cent VAT on the invoice for the overseas provider.

However, they would not be able to claim input credit and might have to pay the sum to the tax department, which could end up being a cost to the bank.

In Channy, chairman of the Association of Banks in Cambodia, said it was difficult to comment as the private sector working group is waiting for the detailed Prakas although it is studying the sub-decree closely to comprehend the meaning.

“Without the Prakas, we really don’t know for certain whether banks will be affected in B2B transactions with non-resident e-commerce suppliers, and [if] banks might not be able to claim VAT input credit as per reverse charge at the banks' expense,” he lamented.

Arguably, most of the ongoing debacle is speculative as the MEF prepares the Prakas that could explain the workings of the law.

It is unclear exactly when the ministry will issue the document, but its spokesman Meas Soksensan assured that the sub-decree “would not impact locally registered e-commerce firms”.

Instead, the regulation would ensure fair competition among tech platforms as well as attract more investment into Cambodia that will help grow the technology sector, an official MEF notice shared by Soksensan said.

`Natural and easy way to tax’

The timing of the sub-decree is poignant, as it comes in the midst of an economic fallout compounded by the worst community transmission wave since the pandemic where 59 lives have been lost as of April 22, 2021.

To flatten the curve, an austere lockdown has been imposed in the capital and surrounding Kandal province, and a few other provinces as Covid-19 cases pushed upwards at 8,193.

Analysts last month had already warned of economic losses over $300 million, which could prompt a downward revision in gross domestic product growth this year.

The situation remains dire as key economic sectors – tourism and garment, textile and footwear manufacturing – remain under stress, even more so now as hundreds of factory workers tested positive for Covid-19 amid fears of rising figures.

In the meantime, fiscal measures proceed with cash outlays and food for poor households and suspended workers amid extensions of loan moratorium for businesses and individuals affected by Covid-19.

But with the lockdown, which has put a stress on business and commerce, Cambodia could be looking at a subdued tax revenue this year compared to the 3.7 per cent year-on-year growth in 2020.

That being said, consumption tax such as VAT will be steadfast, making it a reliable source of income for the government, and which circles back to the sub-decree’s objective of expanding the tax base.

It is not known how much the government hopes to unlock from this new tax measure, but to give an idea, Thailand hopes to raise three billion baht (about $96 million) in VAT revenue when its seven per cent VAT law on non-residents takes effect in September this year.

“It is the natural and easiest way to tax, that is to take a consumption tax such as VAT … to generate additional tax revenue [from] the non-resident service providers. So, it is definitely not unusual as other jurisdictions are doing the same thing,” O’Connell said.

At the same time, the tax base growth works in tandem with the development of the digital economy in view of diversifying its economy as pressure mounts from the partial withdrawal of the Everything But Arms scheme.

Tax is a fact of life

Looking ahead, the sub-decree might reveal setbacks including enforcing penalties, both Galliano and O’Connell opined.

For instance, the sub-decree states that a non-resident e-commerce seller is liable for all the tax that is due from the payment date of registration and a fine of not more than 10 million riel (about $2,500) and/or jail term of one month to a year for obstructing the law by failing to register with the GDT.

“In practicality, cross-border enforcements may be a challenge, and cooperation, not only between intra-government ministries may be required to police e-commerce but also between nations, especially penalising those that fail to comply with the laws of countries where they transact and do business,” Galliano said.

And what if the companies continue to buck compliance? Perhaps, more stern measures could be deployed, which O’Connell said “might be possible” with the new regulation on the National Internet Gateway.

He said in future, GDT “could have” access to a mechanism in the regulation through collaboration with the Ministry of Posts and Telecommunication to take action against errant non-resident e-commerce suppliers.

Nevertheless, the law might not be a deterrent to non-resident tech firms as global tax compliance and enforcement for e-commerce is gaining significant traction and cooperation between nations.

“I think it is a matter of getting away without paying tax, if the laws are not in place, for as long as you can, and then comply when you have to,” Galliano said.

Pointing out Statista’s data that by 2024, approximately 22 per cent of global retail sales will be online and up to 95 per cent in 2040, traditional retail will likely be obsolete.

“Tax is a fact of life, and increased taxation has not even dented the trajectory of growth in online retail sales. The implementation of this sub-decree will have no material impact, except to improve the coffers of the national treasury,” he said.