Digital Economy: OECD opens consultation on Pillar Two

Digital Economy: OECD opens consultation on Pillar Two

On 8 November 2019 the OECD released its Pillar Two consultation document.

Kirsty Rockall

Partner, Corporate Tax

KPMG in the UK


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On 8 November 2019 the OECD released its Pillar Two consultation document. It is important to note that this is not a consensus document – like the Pillar One consultation document, this is a proposal that has been released by the Secretariat to encourage discussion and focus minds on a potential solution.

To summarise this paper:

  • The OECD is proposing a set of Global anti-Base Erosion (GloBE) rules that would ensure that the profits of multinational groups are subject to minimum effective rates of tax. The most important is the so-called ‘income inclusion rule’, a rule that, if implemented, would tax the income of a foreign branch or controlled entity if that income was subject to tax at an effective tax rate (ETR) at or above a minimum rate. It is clear that the OECD intends for this income inclusion rule to go further than domestic controlled foreign company (CFC) rules. The main question is – how much further? 
  • This income inclusion rule will be supported by a ‘tax on base eroding payments’ to deny a deduction or impose withholding tax (WHT) (or something similar) for payments not subject to tax at or above the globally agreed minimum rate. It will also be supported by a ‘subject-to-tax rule’, designed to ensure that treaty benefits are only granted if the item of income is subject to tax at or above the globally agreed minimum rate, and a ‘switch-over rule’, designed to ensure that residence countries can elect to use the ‘credit method’ instead of the ‘exemption method’ where the profits attributable to a permanent establishment (PE) are subject to tax below the globally agreed minimum rate.

There are four major outstanding questions:

1. How should the tax base of foreign branches and controlled entities be calculated? These are the classic tax vs. accounting and IFRS vs. GAAP questions. 

2. To what extent should groups be permitted to blend income from different sources? There are three possibilities: 

  •  Worldwide blending, that would aggregate total foreign income. This would dampen the impact of GloBE as it would enable the profits accruing in low-tax subsidiaries to be blended with the profits accruing in high-tax subsidiaries, but is perceived to be easier to administer. This is broadly the approach taken by the US GILTI regime;
  • Jurisdictional blending, that would aggregate all income (and losses) in each jurisdiction, even if there are multiple subsidiaries or branches in that jurisdiction. This appears to be the direction in which the OECD is heading (without explicitly saying so), although jurisdictional blending may give rise to administrative complexities for highly decentralised groups with multiple business lines; or
  • Entity-by-entity approach, that would consider the ETR in each subsidiary or branch. This would represent the purest application of GloBE, but is perceived to be the most administratively burdensome.

3. Should there be any carve-outs? The OECD has suggested three possibilities:

  • A return on tangible assets. This suggestion has come directly from the US GILTI regime;
  • Controlled corporations with related party transactions below a certain threshold. This suggestion is consistent with many CFC regimes; and
  • A tax incentive that is consistent with the standards set out in BEPS Action 5 and/or a general substance-based carve-out. This recognises the legitimate tax sovereignty concerns of countries that have historically offered generous tax incentives in exchange for genuine economic substance in order to attract foreign capital, skilled labour, innovation activity, etc. It also represents a much closer affinity to existing CFC rules. The OECD does not appear to endorse this, however, explaining that substance-based carve-outs “would undermine the policy intent and effectiveness of the proposal”. It is clear that this will be a key battleground in the coming weeks and months.

4.What is the globally agreed minimum tax rate? This question is not addressed in the paper. This question has been postponed to after the consultation once the ‘design’ questions set out in (1) to (3) above have been settled.

The OECD has requested comments by 2 December 2019 and there will be a public consultation meeting a few days later on 9 December.

For further information please contact :

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