BEPS 2.0 Pillar Two: navigating the impact modelling and implementation challenges
Seven key steps multinationals should consider as jurisdictions begin to implement the new Pillar Two GloBE model rules
With the base erosion and profit shifting (BEPS) 2.0 Pillar Two entry into effect date set for 1 January 2024 in numerous countries, in-scope multinational companies have much to do to be ready to apply and comply with these new rules in all relevant countries.
More than 140 countries, making up the Organisation for Economic Co-operation and Development (OECD)/G20 Inclusive Framework on BEPS, have now agreed to a common approach – a common framework of rules - whereby countries may implement a set of rules for a minimum effective tax rate (ETR) of 15% per jurisdiction. Inclusive Framework members would accept the application of these rules on companies in their own countries, and if they implement the rules would do so in a manner that is consistent with the OECD model rules.
This agreement, which is enshrined in the Global Anti-Base Erosion (GloBE) rules (Pillar Two), allows jurisdictions to collect a top-up tax if a multinational falls below the 15% minimum ETR, on profit realized in their jurisdiction or other jurisdictions. In-scope entities are multinationals with a turnover of €750 million or more.
Achieving agreement on the GloBE rules may have been challenging, but implementation by countries may yet prove to be as difficult, or even more so.
Making sense of a tax landscape in flux
By its very nature, implementation is likely to be a multi-speed process, with different countries and regions introducing legislation at different rates and with different interpretations of the agreed text.
For example, if past projects are anything to go by, G20 countries are expected to work at a faster pace than resource-constrained developing countries. For a wide range of reasons, some jurisdictions may fail to achieve entry into effect by 1 January 2024. It is also conceivable that some countries may never enshrine BEPS 2.0 Pillar Two in law at all.
This multi-speed implementation of the model rules, as well as different interpretations of those rules between countries, is already making it difficult for multinationals to shape their tax strategy going forward. These factors are also likely to trigger an uptick in tax controversy as well as an increase in double taxation.
And there are yet more obstacles on the road to implementation. Even if all the Inclusive Framework members were able to cut and paste the Pillar Two rules into their statute books, passing them into law at the same time, there would still be uncertainty. That is because many of the GloBE rules are extremely complex and lack sufficient clarity.
New country-by-country tax accounting for Pillar Two
The way the minimum 15% ETR is calculated is quite novel. To calculate the ETR and income figures required by the model rules, the vast majority of tax accounting teams will need to rethink and redesign at least some aspects of their existing accounting processes to prepare for Pillar Two. That is because the Pillar Two ETR is a country-by-country figure rather than an entity figure, and because it brings in not only financial data into the equation, but also data currently owned by finance, HR or legal departments.
This toned for a country focus for Pillar Two may require in-practice multinationals to create an additional “set of books” for all the entities within their group.
Some organizations already have standardized accounting systems, processes and data across all of their entities, but these organizations tend to be in the minority.
Numerous multinationals, for example, have a mixture of different consolidation systems or reporting systems, often due to years of mergers and acquisitions. This can make it difficult to achieve the necessary country-by-country Pillar Two calculations in an efficient way.
Other factors, such as the existence of minority shareholders and special rules around the blending mechanisms for income and tax, are also likely to trigger additional tax accounting complexity for Pillar Two.
Managing the Pillar Two pitfalls
Since the start of the BEPS 2.0 project, the OECD has been aware that the introduction of a global minimum ETR is likely to increase complexity and the risk of double taxation and controversy, and it has been taking steps to manage those risks. These steps include:
·?????The introduction of a transitional country-by-country reporting (CbCR) safe harbor and a transitional UTPR safe harbor
·?????A transitional penalty relief regime that provides a “soft landing” during the initial years the model rules are applied
·?????The development of permanent safe harbors, including the recently QDMTT safe harbor
·?????Establishing dispute prevention and resolution mechanisms
·?????Plans to introduce a peer review process
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The OECD’s guidance on a transitional CbCR safe harbor would effectively exclude a multinational’s operations in certain lower-risk jurisdictions from the scope of the model rules in the initial years. The transitional penalty relief invites tax authorities to not apply penalties where a group has taken reasonable measures to apply the global minimum tax rules. Relief will apply for most multinationals for a three-year period until the end of 2026.
In addition, on 17 July 2023, the OECD released a so-called transitional UTPR safe harbor. This UTPR safe harbor would apply for most multinationals until end of 2025, but only in the jurisdiction of the ultimate parent entity of the group if that jurisdiction has a statutory tax rate of 20% or more. This transitional safe harbor would ensure that no group subsidiaries could levy Top-up Tax under a UTPR on the profit of a low-taxed parent entity.
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With more than 140 Inclusive Framework members, however, it is unlikely that immediate solutions to tackle double taxation or most of the other challenges outlined above can be achieved.
It is clear that BEPS 2.0 Pillar Two has added significant complexity to the global tax landscape, with the situation likely to remain in flux throughout the model rules implementation period. So, how should multinationals make sense of this new and rapidly evolving tax landscape and what should they do and when?
Seven steps to consider when impact modelling
While every multinational is different and has its own requirements, tax accounting teams should consider the following seven steps when preparing for their Pillar Two impact-modelling strategy.
1.????Begin by conducting a high-level, risk-based impact assessment in jurisdictions where ETR is likely to fall below 15%. This will help tax accounting teams achieve a “helicopter view” of the new Pillar Two landscape.
2.????Re-assess the existing CbCR process and measure the availability of the transitional safe harbors, as this could alleviate significantly the administrative burden in the first years.
3.????Assess data issues and data gaps that will make it difficult to calculate country-by-country revenues and ETR. Regardless of location or footprint or top-up tax being levied, most multinationals with a turnover of €750 million or more will be obliged to report this data.
4.????Plan, design and implement the actions that needs to be taken to manage the ongoing tax impact. This is likely to be an iterative process with multiple steps. Time is short, however. Multinationals must be ready to report by the end of 2023.
5.????Review available data and existing systems and processes to find connections so that resources can be optimized. This will help avoid unnecessary duplication.
6.????Embed Pillar Two as business as usual.?Multinationals in scope will be obliged to file new tax information returns, provision (and report) on the tax exposure annually (and for some even quarterly), and deal with controversy issues as they arise. This upheaval however presents an opportunity for tax accounting teams to improve their systems and processes throughout the implementation period and beyond.
7.????Engage with policy makers. The model rules have been agreed, but there are still opportunities to discuss areas for clarification and practical implementation matters. To do this effectively, multinationals will need a clear and up-to-date understanding of the issues at stake and be able to articulate their needs.
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The level of complexity involved in navigating the new BEPS 2.0 Pillar Two tax landscape means many multinationals may face challenges to keep pace with implementation and the necessary adjustments to their systems and processes.
Tax accounting teams may well benefit from the support of a member firm partner who is living and breathing BEPS 2.0 Pillar Two and has the knowledge to manage the technical, process and strategy challenges that are already starting to arise.
Thanks Alain Horat and Jose A. Bustos for sharing ideas with me on a daily basis and helping me structure my ideas on the above - though all errors would be mine.
“The views reflected in this article are the views of the author and do not necessarily reflect the views of the global EY organization or its member firms.”
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