The Organisation for Economic Co-operation and Development (OECD) Inclusive Framework on Base Erosion and Profit Shifting (BEPS) issued Pillar Two Global Anti-Base Erosion (GloBE) Model Rules and related guidance (collectively, GloBE rules). The GloBE rules introduce a new, complex 15% global minimum tax regime applicable to multinational enterprises (MNEs) with consolidated financial statement revenues of EUR 750 million or more in two of the four fiscal years immediately preceding the tested fiscal year.
More than 140 countries and tax jurisdictions are members of the Inclusive Framework. Many of these countries and tax jurisdictions are enacting tax laws to adopt the GloBE rules in 2023, in general, with effective dates beginning in the first fiscal year that starts on or after December 31, 2023 (i.e., from January 1, 2024 for entities with calendar year-ends). As of the date of this article, four jurisdictions: South Korea, Japan, Qatar and the United Kingdom have enacted elements of the GloBE rules into local laws.
While GloBE "safe harbor" rules may provide temporary relief, the detailed GloBE rules include several nuances in the calculation of GloBE Income and Adjusted Covered Taxes that can result in GloBE top-up tax liability for companies with financial statement effective tax rates (ETRs) above 15%. Accordingly, affected MNEs should review their facts against the GloBE rules to ensure they will not be liable for GloBE top-up tax, regardless of whether their consolidated or local statutory financial statement ETRs are above or below 15%.
In EY's 2023 Tax Risk and Controversy Survey, Pillar Two was cited as a major source of potential risk for MNEs.
Moreover, MNEs should be aware that the GloBE rules do not need to be enacted in the jurisdiction of the ultimate parent entity of an MNE group to be applicable to the MNE group. The GloBE minimum tax may be levied by an intermediate parent entity or a single subsidiary in a jurisdiction that has enacted the new global minimum tax.
"The GloBE minimum tax is based on a multi-variable calculation that can yield results that are not obvious when viewing facts at a cursory level," says Brian Foley, EY Global Tax Accounting and Risk Advisory Services Leader. "Careful analysis is necessary to avoid pitfalls that can produce unanticipated top-up tax liabilities."
A closer look at MNE's financial statement ETR can help:
- Explain factors that drive financial statement and GloBE effective tax rate differences.
- Identify four common scenarios in which MNEs with "high" ETRs (i.e., above 15%) may be liable for the new global minimum tax, notably:
- Deferred tax differences
- Withholding taxes
- Uncertain tax positions
- Changes in recognition of deferred tax assets (or valuation allowances)
- Highlight practical steps companies can take now to prepare for Pillar Two.
What's in your ETR?
MNE's financial statement ETR is a single metric that blends the tax effects of worldwide pre-tax income earned across all jurisdictions in which the group operates, by its various entities (i.e., corporations, partnerships, branches, joint ventures). The tax effects reported in a financial statement ETR include current and deferred taxes, uncertain tax positions, the impact of new tax laws, changes in the recognition of deferred tax assets (or valuation allowances), withholding taxes, tax credits, tax incentives, and other matters.
GloBE differences
The GloBE rules begin with consolidated group financial statement net income, but quickly deviate from the book results by calculating separate GloBE ETRs for each jurisdiction in which the MNE group operates. Calculating GloBE ETR by jurisdiction exposes low-taxed income in one jurisdiction that is blended with high-taxed income in another jurisdiction in the consolidated financial statement ETR.
Further deviations exist based on differences between book income and GloBE Income and differences between book total tax expense and GloBE Adjusted Covered Taxes. For example, GloBE Income excludes, among other things, certain dividends, certain equity gains or losses, certain foreign exchange gains and losses, fines and penalties, and accrued pension expenses otherwise included in book income. GloBE Adjusted Covered Taxes, among other things, excludes the tax effects of items excluded from GloBE Income, recasts high-tax deferred tax expense to deferred tax based on 15%, accounts for uncertain tax positions on a cash basis, defers current tax expense not expected to be paid within three years, and excludes (or recaptures) deferred tax expense related to certain deferred tax liabilities that do not reverse within five years.
“Companies need to understand the items in their book ETR that are not in their GloBE ETR and be able to account for differences that impact GloBE Income and Adjusted Covered Taxes”, says Foley. “Companies should be working now to anticipate the 2024 impact of Pillar Two to inform stakeholders and internal constituents, and if appropriate plan for increased cash taxes and a higher book ETR.”