Base erosion and profit shifting (BEPS) is a tax planning framework introduced by the OECD to target gaps and inconsistencies in tax legislation, which means large multinationals underpay or avoid paying tax. Under the OECD Inclusive Framework, a reform package of a two-pillar solution was proposed and agreed upon by over 135 countries in 2021 in order to address the changing of the global economy and its digitalization in an attempt to modernise tax rules. This reform package is considered part of BEPS 2.0 and seeks to make tax regimes less of a deciding factor for multinationals deciding which jurisdictions to trade or invest in and OECD anticipates that global tax revenues will rise by 4% due to BEPS 2.0 and will mostly affect economies with the largest volumes of direct investment.
The proposed Pillar 1 would focus on the rules for taxing profits and rights with a formula to calculate the proportion of earnings taxable within each relevant jurisdiction by introducing a new taxation methodology aimed at digitised companies. At the same time, the new methodology would target consumer-serving organisations that trade or communicate with customers through a digital format. In essence, taxing rights would belong to the country where the company's customer is located, the profit allocations between countries would be based on a formula, and the new rules would apply to organisations with annual revenues of €20 billion or more – and over time drop to €10 billion – and a profit margin of 10% or greater.
The proposed Pillar 2 would introduce a global minimum Effective Tax Rate (the “ETR”) in an effort to end competition between countries to offer the lowest possible corporation tax rates to attract foreign investment. The ETR would be 15% for multinational groups with consolidated annual revenue over €750 million on income from low-tax jurisdictions and these multinational groups would be subject to a minimum ETR in every jurisdiction in which they trade. This would allow for taxation at source for low tax payment organisations.
EU Member States began negotiations on a potential agreement on the rules in December 2021 when the EU Commission presented a proposal for a directive to implement Pillar 2 and reached an agreement to implement at EU level the Pillar 2 in December 2022, when EU Member States decided to advise the Council of EU to adopt the Pillar 2 directive. The EU Member States concur with the OECD’s view that the implementation of Pillar 2 will limit the competition between Member States on who will have the lowest corporate tax rates, will reduce the risk of tax base erosion and profit shifting, and ensure that the largest multinational groups pay the agreed global minimum rate of corporate tax. As per the announcement, the directive will need to be transposed into Member States’ national law by the end of 2023. It is understood that the effect on EU Members States’ economies will not be the same and will differ considerably depending on the nature of the economy and the vast array of existing tax rates across the Member States.
As a result of the above developments, organisations within the scope of Pillar 2 are recommended to begin collecting all relevant data which will be needed to forecast and model their reporting and compliance requirements, both in the interim and upon implementation of the directive.
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