The long-anticipated Pillar Two 15% global minimum tax has been enacted in several jurisdictions across the globe and is in effect for many multinational entities (MNEs) beginning in 2024. Now what?
Many MNEs have been taking steps to prepare, but there is still much more work to do. The global minimum tax is vast in both its reach and complexity, with rules that define a new tax base and a nuanced formula to calculate minimum top-up tax on a jurisdictional basis, rather than on a legal entity or a consolidated reporting unit basis. MNEs will see a notable increase in their reporting and compliance burden, and they need to take steps now to address immediate reporting needs.
More than 140 jurisdictions in the Organisation for Economic Co-operation and Development (OECD) Base Erosion and Profit Shifting (BEPS) 2.0 Inclusive Framework agreed to a two-pillar solution to address digitization and globalization of income taxes. Pillar Two of the two-pillar solution calls for a global minimum tax of 15% for multinational corporations with group revenues of more than €750 million in at least two of the past four years. The global minimum tax introduces a completely new international tax regime and is the largest coordinated effort to align on a common international tax system.
As of the date of this article, 27 jurisdictions have enacted local versions of the new global minimum tax regime with more jurisdictions expected to enact the law in 2024. In 25 of the 27 jurisdictions that already enacted the new global minimum tax, the law is effective in 2024. Tax accounting teams should reevaluate and update their tax accounting systems, processes and models now to account for the new law.
Here are five steps to consider when preparing for the changes:
1. Know the organization chart
MNEs should maintain an inventory of all entities and permanent establishments in their organization chart, including the location, ownership structure and tax nature of each entity. Knowing the details of the organization chart, relationship hierarchies and structures will enable MNEs to determine the constituent entities in scope of the global minimum tax. Although MNEs may consider limiting the inventory of entities to only “low-tax” jurisdictions, the global minimum tax rules are such that even entities operating in jurisdictions with statutory tax rates above 15% may have Global Anti-Base Erosion (GloBE) effective tax rates (ETRs) below 15%.
While seemingly straightforward, this step may be a challenge for some MNEs with many corporate legal entities, flow-through entities, transparent entities and permanent establishments. Minority-owned entities, non-equity-owned consolidated entities and other unique structures may present additional challenges. Monitoring ongoing changes to the organization chart (e.g., due to changing business needs and internal and external transactions) and the impact of those changes on the global minimum tax calculations will be an ongoing activity.
2. Evaluate provision readiness
Under the global minimum tax regime, a MNE’s constituent entity financial statements are the basis for calculating the minimum tax. If the constituent entities in a jurisdiction have a combined GloBE ETR (as calculated following the global minimum tax rules enacted in domestic legislation) below 15%, the MNE will incur a minimum top-up tax to achieve a 15% GloBE ETR in the jurisdiction.
Because the minimum tax calculation contains multiple inputs and elections and aggregates entities by jurisdiction, the GloBE ETR for any jurisdiction is often not an intuitive result. As such, predicting which jurisdictions will incur Pillar Two top-up tax may prove difficult. MNEs should prepare an initial impact analysis to provide a clearer view of which jurisdictions may have a GloBE ETR below 15% and which jurisdictions may qualify for temporary transitional safe harbors that eliminate near-term top-up taxes and GloBE reporting and compliance for up to three years.
MNEs will need to document the calculations and analysis used to estimate potential top-up taxes and qualification for safe harbors. Tax accounting teams also need to ascertain whether their existing systems can produce the data needed for minimum tax calculations. Many MNEs will need to update or redesign tax processes and systems to support minimum tax calculations for interim and annual tax provisions and eventual tax compliance.
Additionally, data sources may need to be refined or expanded, systems and processes for data collection updated, and internal controls refreshed. Near-term process considerations include updates for global minimum tax modeling and 2024 interim and annual provisions for GloBE taxes.
3. Increase precision of income tax reporting
Robust reporting processes and documentation are essential for calculating global minimum tax liabilities and preparing for review by external auditors. Audit readiness, therefore, should be a goal as MNEs examine their processes for the temporary safe harbors and estimated accruals for top-up taxes.
Estimated group tax provision calculations can differ from detailed tax return calculations, resulting in prior-year provision-to-return adjustments that can impact global minimum taxes. Unanticipated provision-to-return adjustments can distort an entity’s GloBE ETR and affect the ability to qualify for the safe harbor provisions. For these reasons, group reporting processes and controls should be examined and potentially redesigned to enhance the precision of tax provision estimations to reduce provision-to-return true-ups that can lead to unexpected top-up tax.
4. Consider disclosures
SEC Regulation S-K Item 303 (Reg S-K) requires the disclosure in a registrant’s management discussion and analysis (MD&A) of prospective information that is reasonably likely to have a material impact. Entities subject to Reg S-K should consider whether disclosure of the expected impact of the GloBE rules on their results of operations or financial condition is necessary.
On 23 May 2023, the International Accounting Standards Board (IASB) issued International Tax Reform — Pillar Two Model Rules – Amendments to IAS 12 (the Amendments), which require an entity to provide information to users of IFRS financial statements before and after the Pillar Two legislation is in effect. The disclosure of the current tax expense related to Pillar Two income taxes and the disclosures in relation to periods in which Pillar Two legislation has been (substantively) enacted but is yet to take effect for the entity are required for annual reporting periods beginning on or after 1 January 2023. However, they are not required for any interim period ending on or before 31 December 2023.
Adding to the complexity, as with other IASB amendments, individual countries may require endorsement of the Amendments before the Amendments become effective in that country.
Many MNEs are developing processes to centralize Pillar Two calculations. Because the IFRS disclosures may require information related to Pillar Two that the subsidiaries may not readily have available, MNEs should reassess their process for preparing statutory financial statements to provide additional support to local teams.
