Commentary on Pillar 2 is published by the OECD and the EU is reworking the implementation directive

The OECD published the commentary for the Pillar Two global minimum tax rules (GloBE rules), on 14 March 2022. The commentary elaborates on the interpretation and application of the Pillar two rules, promoting a consistent interpretation and implementation among tax jurisdictions. To further promote a consistent implementation, the OECD also opened a four-week consultation period regarding the implementation of the GloBE rules.

At the same time, the EU has continued their work on the Pillar Two EU directive. A new version containing technical changes and a proposed one year delay for the implementation, was published on 12 March 2022 and brought to vote on 15 March 2022. As the EU did not unanimously agree on the new draft, further amendments were made and brought to vote on 5 April 2022, only to be rejected again.

At first the alert will provide a short summary of the minimum tax system under Pillar Two and further discusses the main takeaways of the commentary and updated EU directive as well as the remaining (political) uncertainties.

Pillar Two- Minimum effective tax rate of 15%

For companies with a global turnover of generally more than EUR 750m a minimum effective tax rate (“ETR”) of 15% at jurisdictional level is proposed.

Should the ETR in a jurisdiction of a subsidiary or permanent establishment be too low, a top-up tax (also referred to as Income Inclusion Rule (“IIR”)) is levied, typically at the ultimate parent level, so that the overall tax rate reaches the 15% minimum tax rate in each jurisdiction.

In addition, should the entire top-up tax not be sufficient based on the IIR, the Undertaxed Payment Rule (“UTPR”) will come into play as a secondary rule and typically tax will be levied at the level of the other entities in the group.

Above mentioned scope and mechanism is also referred to as Global Anti-Base Erosion Rules (“GloBe rules”).

The OECD commentary

The OECD commentary does not bring changes to the scope or application of the GloBE rules. Its purpose is to create a common detailed understanding of the Pillar Two rules. Countries are free to implement the GloBE rules but when they do, it is required that the local implementation is consistent with the model rules and commentary. Consistent implementation is required to create legal certainty for MNE’s and to avoid potential over-taxation resulting from interpretation differences.

The level of detail the commentary provides should not only result in consistent global interpretation, it also allows MNE’s to assess the impact of Pillar Two on their organization in more detail. The model rules already allowed for detailed calculations of the additional top up tax to which in scope MNE’s will be subject. The commentary should help to resolve any remaining uncertainties in these calculations and the allocation of the top up tax.

The EU draft directive

The EU published an amended draft Pillar Two directive (“Directive”) on 12 March 2022. The new draft directive does contain technical changes compared to the 22 December 2021 version. Most noteworthy is the proposed change to the entry into force date. The OECD aims to implement Pillar Two in local law in 2022 with the IIR  entering in to force per 1 January 2023 and the UTPR entering into force per 1 January 2024. This timeline has always been ambitious. The EU now proposes to delay the entry into force by one year, in order to give member states the time to properly assess the impact of the rules on their country and to properly implement the rules.  

The old draft was also not entirely aligned with the OECD model rules. Some of the technical changes in the new draft are aimed at creating more consistency between the OECD model rules and the EU directive.

The new draft was brought to vote on 15 March 2022 and rejected by four countries. Three countries disagreed with delayed implementation for countries with few (less than 12) ultimate parent entities. Poland disagreed because they want the Pillar 2 implementation to be legally linked to the implementation of Pillar 1.  A new proposal was brought to vote on 5 April 2022. This time, only Poland rejected the proposal, based on the same reasoning as their prior objection.. During the next Ecofin meeting scheduled 24 May, the Directive will be brought to vote yet again. The EU still aims for alignment with the OECD model rules. As such should it not be expected that new changes to the Directive should result in major changes compared to the OECD model rules.

Remaining uncertainties

Though MNE’s should be able to make a detailed assessment of the impact of Pillar Two on their organization, uncertainty remains with regards to the compliance obligations. In scope MNE’s will be required to prepare an annual GloBE information return, containing information on all constituent entities and the required information to calculate the top up tax due for each of these entities. In essence, it can almost be seen as a global tax return. A standard template for the GloBE information return is still in development, as well as safe harbor rules aiming to reduce the administrative burden of Pillar Two. It is expected that additional guidance on compliance will be published mid-2022.

Where the OECD has been working on creating legal certainty for the application of the rules, uncertainty regarding implementation has been increasing. The Directive was rejected in March mostly because of implementation issues, with Poland requiring an implementation link with Pillar One and with three countries disagreeing on delayed implementation for countries with few (less than 12) ultimate parent entities. A new vote on 5 April 2022 only left Poland to reject the proposal based on the same reasoning as in March. As the OECD still has to publish their implementation plans, we expect more political discussions in the near future for Pillar Two. We expect these political discussions will not materially impact the Pillar two rules but might create additional implementation delays.

Need for action

The GloBE rules will introduce fundamental changes, including creating a harmonized global tax base to compare effective tax rates and consider differences in domestic corporate tax regimes. For tax departments of internationally active companies, it will be essential to understand these rules quickly and thoroughly, preparing their tax compliance processes for the new global review required and making sure they have access to all relevant data. The consistent global implementation that the OECD envisions should help with this. With the Pillar Two commentary published, it becomes possible to assess the impact of Pillar two in detail. Once the impact becomes clear, MNE’s can start implementing Pillar Two compliance in their existing compliance processes.

The impact of Pillar Two is not going to be the same for all internationally active companies. Understanding the impact of Pillar Two on your organization and implementing Pillar Two compliance in your existing process is going to be a time consuming process. RSM is able to support internationally active companies in this regard. Our Pillar Two support team can help analyzing and modelling the impact of the Pillar Two rules, setting up internal and governance processes and exploring ways to address increased taxation and complexity.