On 5 January 2026, the OECD/G20 Inclusive Framework (IF) published complementary administrative guidance on the following novel aspects of Pillar Two: 

  • A Side-by-Side (SbS) system;
  • A permanent Simplified Effective Tax Rate (SETR) safe harbour;
  • A one-year extension of the existing transitional Country-by-Country Reporting (CbCR) safe harbour; and
  • A substance-based tax incentive safe harbour (SBTI).

Whilst the SbS system, which effectuates a G7 announcement made several months ago in response to the United States’ (US) proposed section 899 ‘revenge tax’, has expectedly attracted most attention, the other three components also warrant attention.

Background

Pillar Two represents the IF’s response to the challenges arising from the digitalisation of the economy and is constituted by an interlocking and coordinated system of rules designed to ensure that in-scope large MNE Groups are subject to a minimum effective tax rate of 15% on any ‘excess profits’ arising in each jurisdiction in which they operate.  Further information regarding Pillar Two can be found at the following links:

SbS system

The SbS system is a new, permanent safe harbour, which provides that no top-up tax will be payable under an Income Inclusion Rule (IIR) or Undertaxed Profits Rule (UTPR) where the ultimate parent entity (UPE) of a constituent entity is located in a jurisdiction with a Qualified SbS Regime. This regime – which applies on an elective basis by jurisdictions which decide to– is effectively a concession to political pressure exerted by the US to carve out US-parented groups from the application of the rules (noting that the US is the only jurisdiction currently recognised as having a Qualified SbS Regime),.  

The SbS system will only apply to income years commencing on or after 1 January 2026, meaning no relief will be available for preceding income years. 

To have a Qualified SbS Regime a jurisdiction must:

  • Have an ‘eligible domestic tax system’;
  • Have an ‘eligible worldwide tax system’; and
  • Provide a foreign tax credit tax credit for Qualified Domestic Minimum Top-Up Taxes (QDMTT) on the same terms as any other creditable Covered Tax.

The respective criteria for an ‘eligible domestic tax system’ and ‘eligible worldwide tax system’ are summarised in the following table:

 

 Where a jurisdiction demonstrably satisfied the requirements as at 1 January 2026, the IF has committed to assessing its status as a Qualified SbS Regime by 30 June 2026. At this point, it is anticipated that Australia will not electively adopt the SbS system, though a number of other jurisdictions are likely to.

SETR safe harbour

In welcome news, a SETR safe harbour will apply permanently from either 1 January 2026 or 1 January 2027, depending on whether a jurisdiction qualifies and opts in as an early adopter[1]. The permanent SETR safe harbour and is designed to reduce the administrative burden caused by Pillar Two for in-scope MNE Groups. 

The SETR safe harbour, which will ultimately succeed the transitional CbCR safe harbour (which has been extended by one year – see below) deems top-up tax to be nil for a jurisdiction where the in-scope MNE Group’s simplified ETR is at least 15%, or the in-scope MNE Group has an overall ‘simplified loss’ in that jurisdiction. Unlike the transitional CbCR safe harbour, Simplified ETR is calculated by dividing Simplified Taxes by Simplified Income, using the same financial reporting data used to prepare an in-scope MNE Group’s consolidated financial statements, with certain mandatory and optional adjustments provided for. The SETR safe harbour also provides greater flexibility for in-scope MNE groups to opt in or out. 

Extended CbCR safe harbour

The transitional CbCR safe harbour has been extended for one year to encompass income years beginning on or before 31 December 2027 (but not included an income year that ends after 30 June 2029) in order ‘to allow sufficient time for smooth implementation of the SETR safe harbour’. Helpfully, the resultant twelve-month coincidence of the transitional CbCR safe harbour and SETR safe harbour provides in-scope MNE Groups with optionality with respect to the transition period. 

SBTI

The SBTI ‘recognises tax incentives are a widely used tool to promote investments and economic development’, and therefore seeks to permit in-scope MNE Groups to continue to benefit from certain tax incentives that are strongly connected to economic substance in a particular jurisdiction.

Broadly, the SBTI permits in-scope MNE groups to treat Qualified Tax Incentives (QTI) as an addition to the Covered Taxes of Constituent Entities in a jurisdiction. A tax incentive will be a QTI where it is generally available to taxpayers and is calculated based on expenditures incurred or the amount (cf. value) of tangible property produced in a jurisdiction. A Substance Cap equal to the greater of 5.5% of payroll costs or tangible depreciation costs in the jurisdiction will apply, although in-scope MNE Groups may avail of an alternative cap equal to 1% of the carrying value of tangible assets in the jurisdiction[2].

Take Aways

Relevantly, as the Taxation (Multinational – Global and Domestic Minimum Tax) Bill 2024 requires interpretation consistent with relevant administrative guidance, this latest IF promulgation should essentially be regarded as law in Australia. 

The administrative guidance from the IF should largely be welcomed in that it delivers material simplifications to Pillar Two, although some practical challenges arise with respect to matters such as the narrowly-defined and conditional nature of the SBTI and the inherent complexity of the SETR safe harbour, notwithstanding its purpose of simplifying compliance.

Although the SbS system has been maligned as a political concession to the US that potentially undermines the efficacy of Pillar Two, the IF acknowledges that some jurisdictions may already have implemented a tax regime which incorporates minimum taxation requirements with respect to the domestic and foreign income of MNE Groups headquartered in that jurisdiction, and that their existing tax regime has similar policy objectives, overlapping scope, and a complementary policy impact as the Pillar Two Framework. This acknowledgement should, however, be considered against the potential for the SbS system, particularly its disablement of the UTPR, to undermine the policy objective of a global minimum tax. 

Additionally, it is important to recognise that constituent entities will remain subject to QDMTTs, even where their UPE is located in a jurisdiction with a Qualified SbS Regime. In other words, source jurisdictions will preserve their rights to apply top-up tax to otherwise ‘undertaxed’ income. Furthermore, with regards to Australia specifically, there will continue to be lodgement obligations in connection with the Pillar Two regime irrespective of whether the UPE of the MNE group is located in a jurisdiction with a Qualified SbS Regime. Failure to comply with the necessary filing requirements in Australia can result in fines of up to $825,000 per failure to lodge. Therefore, we would strongly encourage Australian members of MNE groups to continue to be proactive in their approach to complying with the Australian reporting obligations. With the first reporting deadline for Pillar Two in Australia of 30 June 2026 rapidly approaching, in-scope MNE Groups are encouraged to ensure they are aware of and fully grasp relevant developments. 

FOR MORE INFORMATION

If you would like to learn more about the topics discussed in this article, please contact your local RSM office.

[1] Australia’s eligibility to be and status as an early adopter is presently unknown. 

[2] The SBTI also provides for Qualified Refundable Tax Credits and Marketable Transferable Tax Credits to be treated as a QTI where they qualify as expenditure- or production-based tax incentives. 

HAVE A QUESTION?

 Get in touch 

Related insights