Money: Hector the Inspector will have to get wired if he wants the tax from electronic commerce

Let us boldly go where no taxman has gone before. An issue beginning to exercise the minds of many governments and tax authorities is the taxation of electronic commerce - what is being termed "cybertax".

To understand the issue we have to think where tax has, in a sense, come from and where commerce is going.

Looking back into medieval times, governments (it was usually the monarch in those days) taxed "things". That meant property and goods. Customs duties hit goods; stamp duty came in 1694 to tax transfers and there were always levies on property. The principles are still with us today - council tax for property, VAT for goods, plus duties such as excise duties.

The proportion of commerce and wealth represented by goods has been dropping for many years. Indeed, the idea of free trade between nations means a dropping of tax barriers. So less tax on goods means a need to look at other areas - income, for example.

Taxing income is hardly a new idea. Income tax in this country came in as a temporary levy (it strictly still is temporary!) to fund the war against Napoleon. Taxing profits, be they personal, trade or corporate, is now a key part of government income. With the growth of the service industry, VAT replaced purchase tax in the 1970s. Instead of just taxing goods, VAT taxes services as well.

But if business is increasingly being done electronically, this raises problems for the taxing authorities. There are no goods to tax; it is less easy to "see" the service and tax it and arguments arise over where the profit is actually made. If a deal links Japan, the USA, the UK and South Africa, how do you apportion the profit made on the deal between the various countries?

This hasn't been seen as a problem until recently. After all, the service provider would be based in a major location and would make his profits and pay his tax there. But a PC, modem and Internet connection means you can do electronic business based anywhere. Why not do the work from a base in the Cayman Islands where there is no tax? Or take it a stage further: why not sit here and route the business through the Caymans?

This starts to conjure up visions of large amounts of taxable income missing the tax collectors' attention. While goods and services will still flow, not only is the service proportion increasing but so are the electronic ways of providing services.

We are unlikely to receive a takeaway meal through the Internet but we could order it and also get many of our professional services delivered to our PC. Of course, if I start providing tax advice via the Internet, I'll still want paying (please!) and I'll still declare my profits (honest!).

But maybe it won't be too long before we start to see a virtual bank making and receiving payments and services done on a barter basis. And the result would be that a lot of value starts to pass around with no taxman able to get a proportion of it.

So the taxman wants to tax this value that is flying around and hence there is talk of a "bytes" tax. Could there then be a duty on Internet web sites? One point to bear in mind is that if society decides to control the Net, society will have to contribute to the costs of so doing.

There is something of an analogy here with the 19th century goldrushes - anarchy reigned for many years until all concerned decided that some sort of rules and control had to happen. That had to be paid for so that meant taxes which, realising the benefit, participants paid.

So perhaps a licence fee could be charged and paid? There would have to be benefits for those involved and it would have to be a concerted world-wide action, else the web worker based in the UK would take his business to another country where there is no website tax.

There is no vision of how taxing electronic commerce might work. But you can begin to see the problem and no doubt appreciate that perhaps one day Hector the Inspector will have been shrunk sufficiently to send him down a wire to chase all that electronic commerce whizzing around.

John Whiting is a tax partner at Price Waterhouse