Dealing with the gig economy
The harrowing experience of a customer allegedly assaulted by an Uber driver late night on an isolated street and left unconscious has amplified calls for the company to establish customer support services in Sri Lanka to respond to emergencies faster. Platform companies have resisted establishing offices and hiring staff in every country where their apps are used arguing they are merely a marketplace. In the case of Uber, a marketplace linking a person needing to get somewhere with a driver.
Taxi and food delivery apps have transformed the landscape in Sri Lanka. Because they meet consumer needs conveniently and cheaply, they are popular. Costs of a local office will erode their competitiveness against offline competitors. However, there is another reason to resist incorporation; taxation. In emerging markets where their apps are used, global platforms often don’t pay sales or income tax because they don’t have a physical presence. At the heart of this dispute is where platforms, including ones like Google and Facebook, offer services and make their profits and where those services and profits are booked for sales and income tax purposes.
States take pride in securing their borders; for security and to control trade. To move to another country, goods and people had to physically cross borders, which made controlling access, taxing or regulating them, straightforward. However, the internet has upended this model. Now ideas and data zip across borders. As a result, companies can now offer products and services in a country without a physical presence. For instance, aliexpress.com delivers products here, Uber connects vehicles to those looking for short term hire and thousands of Sri Lankans book hotel stays on booking.com. These online platforms connecting consumers with suppliers or workers, and their ubiquity, throw several challenges not limited to taxation and technology policy.
To suggest that tax is a sovereign matter is ignorance or prevarication. In a country poorly linked with the world and where incomes are still low, like Sri Lanka, taxes can be altered at will. But even Sri Lanka will soon discover that the present global set-up will leave it scratching its head if it tries to tax the gig economy. Economic innovators and laggards world over—where the internet is accessible on smartphones—are scrambling to respond to the gig (also called the sharing or platform) economy. Platform companies have established online marketplaces linking short-term workers with the demand.
The most ubiquitous gig services in Sri Lanka are taxi app and food delivery platforms of Uber and PickMe. Elsewhere in Asia, all sorts of services are on offer, from booking a homestay, finding a handyman to learning a language. The gig economy’s potential is only just getting tapped. Platforms like Google, and social media firms like Facebook are also part of the gig economy. However, the focus of this piece is on the tax and tech policy challenges that give global platforms an unfair advantage over similar local ones.
PICKME VS UBER
An industry insider estimates that between them, PickMe and Uber deliver around 25,000 meals and ride-hailing revenue tops Rs100 million in Sri Lanka, daily. Young urbanites, grown used to ordering food whenever they fancy or renting tuktuks instead of owning cars, are driving growth. Gig economy firms are intermediaries in a two-sided market of workers and jobs. Workers are paid for every task completed rather than a fixed salary like employees.
Platform companies maintain that workers perform tasks in their personal capacity as ‘independent contractors’. In the past it made sense for workers to be full-time employees. Firms would order these employees to do whatever work instead of looking for freelancers in the open market and negotiating a contract to fulfil tasks.
It worked well for both parties; in return for coming to work every weekday and following orders, employees receive security and predictable pay, and organisations can order these people around to get the work done. The gig economy has overturned this decades-long balance with a market for workers and customers. Services are now market priced. As more workers and customers sign up, the platform becomes highly efficient. As a result, market price rather than a firm’s payroll reach, drive economic activity. Sri Lankan market leading taxi platform PickMe alleges that its ride-hailing and food delivery competitor Uber not having to comply with Sri Lankan tax law is depriving it of a level playing field.
LEVEL PLAYING FIELD
Jiffry Zulfer the founder and Chief Executive of PickMe says the company now faces a Rs500 million sales tax (VAT) annual assessment, which is a demand from the tax authorities. Since PickMe is incorporated here it’s liable for all Sri Lankan taxes. PickMe’s last funding round raised around Rs1 billion.
Zulfer says the assessment is based on gross revenue, which includes the 75% or more (if incentives are involved) they collect on behalf of drivers providing the service. Depending on the mix of incentives on offer to drivers, a taxi app at most will retain 25% of that spend as its commission. Based on net revenue Zulfer says it must pay Rs200 million for VAT for the same period.
Zulfer does not reveal details about the disputed VAT but says its taxi app revenue now tops a billion rupees a month. That would work out to Rs150 million in VAT on a gross basis if the rate were 15% and Rs37 million if PickMe only had to pay sales tax on the assumed 25% commission it retains for its intermediary role. These calculations ignore any input VAT which PickMe may setoff against payments and that the government has now decided to reduce the VAT rate.
“VAT is a huge amount. If others don’t make similar payments it gives them a huge advantage in this market.” Sales taxes are borne by consumers. However, since taxi apps are a competitive business PickMe is unable to price its services at cost-plus.
Customers would simply abandon PickMe if it added VAT on top of its bill when its competitor doesn’t. Duminda Hulangamuwa a partner at global accounting firm EY’s Sri Lanka unit says the principles around taxation are broadly established.
Taxation of income (profit) is global and indirect tax (sales tax) is territorial. “If a Sri Lankan does business wherever in the world, the income (profit) is taxable in Sri Lanka,” Hulangamuwa explains. Global treaties that also cover areas like double taxation and under what terms income can be taxed, supersede Sri Lankan tax law. The framework for taxing multinationals is managed under the aegis of the OECD, a group of mostly rich countries. Critics say that at best, it’s a patchwork of laws and treaties frayed by inconsistencies.
Since global platforms are not incorporated in Sri Lanka they are not liable for income tax here under these rules governing the taxation of multinationals. “In those treaties, for a non-resident person to be taxable in another country she has to be what they define as a ‘permanent establishment’. Platform companies can make the case they don’t have a permanent establishment in Sri Lanka.”
Revenue, on the other hand, should be VAT liable as sales taxes are territorial. However, platform companies collect most revenue as credit card payments directly overseas. Sri Lankan tax administrators aren’t able to tax these because, again, these firms are not incorporated in Sri Lanka and not ‘permanent establishments’. “If Inland Revenue wants to asses these platforms who aren’t based here, how are they going to serve notice? They don’t have jurisdiction to serve notice to the registered offices in another country.” Hulangamuwa is a consultant to multinational companies on taxation. However, he agrees the setup is disadvantageous for countries like Sri Lanka because most transactions can be bypassed. “The challenge is that technology development means there is no longer a need for physical presence. Whereas the laws are based on physical presence.”
Of the several challenges confronting governments about the gig economy foremost is this lack of a level playing field. Jiffry Zulfer founded PickMe in 2014 and today estimates to have 65% of ride-hailing and over 20% of food delivery market share. At its last funding round the company was valued at Rs12 billion. Most of the money its raised since founding has been invested in technology and its long term quest of building a super app.
Already, it’s possible to order groceries and reserve a delivery vehicle on the PickMe app. “We are the perfect example. We are at a tremendous disadvantage. Tomorrow if we build another feature on the platform we are again at a disadvantage. It’s not helping with advancing the tech ecosystem here,” argues Zulfer. Half of PickMe’s over 400 strong team are software engineers. Without leading-edge tech, PickMe would not be able to compete with Uber.
Zulfer suggests levelling the playing field by having significant platform operators incorporate in Sri Lanka so that they come under Sri Lanka’s laws including its taxes on income and sales. Global gig economy leaders are also master accounting whizzes, intragroup lenders and expert at parking the intellectual capital in low tax countries like Ireland and Luxembourg. Regulators say these practices help explain why digital firms pay so little tax compared to brickand-mortar counterparts.
DIGITAL SERVICES TAX
No one likes new taxes. The OECD administers many of the tax treaties to avoid everyone trying to tax the same stuff at once. As most of the global platforms originate in the US, the status-quo is also one that America has been trying to preserve. Internet businesses are running circles around taxmen. Some rich countries have had enough of waiting for the OECD to negotiate a new international agreement, addressing the challenges posed by cross border digital platforms. Recently France introduced a 3% levy on revenues generated from French users in online platforms and digital advertising. Sri Lanka has introduced a 3.5% tax on all foreign transactions on credit cards.
This is far cruder because it taxes the user and is not a withholding of revenue going to the platforms. It appears more a revenue-generating measure than an effective digital services levy. The French are not alone. Several other European countries are also mulling similar digital services taxes. Even if a platform incorporates in Sri Lanka that unit could easily be losing money. Elsewhere in Asia, regulators are beginning to take a firmer stand on e-commerce and platform companies.
A draft e-commerce law in India aiming to address the taxes slipping through the fingers of the authorities is introducing ‘significant economic presence’ as the basis for determining permanent establishment for the purpose of allocating profits and taxation. PickMe’s margins are narrower than its competitors due to the sales tax it has to absorb. It has announced plans to go public soon but investors will baulk at a hefty valuation if its tax woes remain unresolved.
Besides tax, regulators elsewhere now insist on transparency around how gig platforms store and use data. Zulfer suggests Sri Lanka should also strengthen its data protection policies by introducing regulations similar to Europe’s GDPR rules.
Digital platforms have radically transformed business models the world over. PickMe argues while these platforms have generated tremendous economic benefits by democratising access to supply and demand, they have also raised alarms on accountability. It urges scrutiny on platforms’ income recognition, data protection and anti-competitive business practices.
However, the potential damage a large tax bill may have on the company, that its competitor avoids, is an immediate concern. “VAT is a concern”, Zulfer says. “If they (Uber) had to pay the same taxes they would back off from dumping so much money. Right now we have to pay taxes and they don’t have to, so they are investing more.”
“The revenue department has challenged our VAT calculation. If we end up paying the whole thing we will probably have to shutter the company. It does not make any sense at all.”
Shamindra Kulamannage is Editor in Chief at Echelon, EconomyNext’s sister magazine