A&M Tax Advisor Weekly
As the fate of the Build Back Better Act (BBBA) is in limbo with Senator Joe Manchin’s declaration that he would vote no on the bill in its current form, global efforts continue toward implementation of a two-pillar international tax system (discussed here). On Monday, the OECD released its “Tax Challenges Arising from the Digitalisation of the Economy – Global Anti-Base Erosion Model Rules (Pillar Two)” report. The report provides details on a “common approach” to a highly complex tax regime which nearly 140 “Inclusive Framework members” have agreed to in order to ensure that all major multinational enterprises (MNEs) pay their “fair share” of taxes. This new tax regime is referred to as the “Global Anti-Base Erosion (GloBE) Rules.”
The expectation has been that the GloBE Rules will be adopted into local legislation by Inclusive Framework members by 2023 and that the US GILTI regime, as proposed to be modified by the BBBA, may be a reasonable substitute for the Pillar 2 rules. The OECD plans to address in early 2022 how the GILTI rules will “co-exist” with the GloBE Rules, with the intent of incorporating the US changes if they are enacted into law.
The GloBE Rules would generally apply to “constituent entities” that are members of an MNE group that has annual consolidated revenue of EUR 750 million or more in at least two of the four previous years. A “constituent entity” also includes, but is not limited to, a business located in a jurisdiction that is treated as a permanent establishment under an applicable tax treaty, or if there is no treaty, a business subject to taxes in the jurisdiction similar to how its residents are taxed. Entities excluded from the GloBE Rules include pension funds, investment funds, and real estate investment vehicles.
Under the Pillar 2 rules, an effective tax rate would be computed for each jurisdiction in which the MNE operates. If the MNE operates in a jurisdiction in which its effective tax rate is below 15%, it would be subject to a “top-up tax” based on the difference between 15% and its effective tax rate in that jurisdiction. The rules further explain how to determine which entity within the group is responsible for the top-up tax under either an income inclusion rule or an undertaxed payment rule.
The operative provisions of Pillar 2 described in the report include other complex rules and clarifications to ensure a common approach to implementing the new international tax system, including:
Because the US was one of the driving forces behind the new global international tax system, the apparent delay, or a potential failure, in enacting legislation that revamps the GILTI rules creates doubt on whether the US will have a regime that “co-exists” with the GloBE Rules. That in turn could cause more than 130 other Inclusive Framework members to abort or slow down their plans to adopt the rules. As all eyes are watching the US, looking for it to take the first step, the stalled legislation could lead to skepticism about the global implementation of Pillar 2 by 2023, or ever being adopted. But in fairness, the world appears to be changing quite rapidly in ways that would have been difficult to predict, or believe, only a few years ago.
If Pillar 2 is implemented, the complexity in determining and analyzing the tax implications for MNEs captured within its scope will significantly increase. With the uncertainty, companies should examine their existing structures and transfer pricing agreements to determine what changes should be considered and assess the operational and financial implications of the top-up tax. As always, we are available to assist clients in understanding the details of the model rules and how those details affect them.