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FinanceJuly 10, 2024

BEPS Pillar 2 101: Exploring the OECD’s global minimum tax impact on tax incentives

This article will explore how the global minimum tax affects tax incentives and what you need to do to minimize negative impacts.

Overly generous tax incentives offered by certain jurisdictions can lead multinational enterprises (MNEs) to shift profits to those locations, significantly reducing their global tax contributions. To combat this, the OECD has introduced the BEPS Pillar 2 framework, which aims to ensure that MNEs pay a minimum tax rate of 15% worldwide, curbing tax avoidance and profit shifting. This poses challenges for jurisdictions with low tax rates or income-based incentives, potentially reducing their attractiveness for investment. This article will explore how the global minimum tax affects tax incentives and what you need to do to minimize negative impacts. 

What you’ll learn: 

  • A recap of BEPS Pillar 2 and its global minimum tax 
  • How global minimum taxation impacts tax incentives 
  • Income-based incentives 
  • Expenditure-based incentives 
  • Incentives with economic substance 
  • How CCH Tagetik Global Minimum Tax can help 

Let’s recap: BEPS Pillar 2 and global minimum tax 

The problem: MNEs are profit shifting to reduce taxes 

Overly generous tax incentives offered by a jurisdiction can persuade multinational enterprises (MNEs) to shift their profits to that location to reduce their tax burden. The aim of Pillar 2 is to stop this from happening. The OECD wants each MNE to pay its fair share of tax worldwide and for each jurisdiction to receive its fair share based on the business’s activities in that jurisdiction. 

The proposed solution: A global minimum tax of 15% for MNEs 

Pillar 2 of the OECD agreement requires MNEs with a global annual revenue of €750 million or more in at least two of the four preceding fiscal years to be subject to a global effective minimum corporate tax rate of 15%. This is affected by an income inclusion rule (IIR) and an undertaxed payments rule (UTPR), collectively known as the GloBE rules.

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Understanding how the OECD’s Pillar 2 framework influences tax incentives is crucial for businesses and jurisdictions alike. These incentives play a pivotal role in attracting investment and shaping corporate tax strategies, directly impacting profitability and compliance in a globalized economy.  

Income-based incentives 

Some jurisdictions offer a zero or low standard corporate tax rate to encourage investment. Jurisdictions with a higher standard corporate tax rate (15% or more) may offer tax holidays and reduced corporate tax rates to entities operating in certain industries or geographical locations.  

Other incentives have an even narrower application, applying only to specific income categories, such as intellectual property. The use of narrowly targeted incentives alone may not cause an MNE's effective corporate tax rate to fall below 15%. However, MNEs making strategic use of several of these incentives may find that their effective corporate tax rate within a jurisdiction falls below 15%. Applying the GloBE rules would reduce or eliminate the effectiveness of income-based tax incentives and the investment attraction of that jurisdiction.  

The global minimum tax also creates a problem for jurisdictions with a zero or low corporate tax rate that fail to implement the GloBE rules. These jurisdictions may miss out on taxing the locally sourced profits of a resident parent MNE. These profits may instead become subject to a top-up tax in a jurisdiction where a group entity of the MNE is located. 

To avoid these conclusions and to encourage continued investment, jurisdictions need to rethink their existing tax regimes in two ways: 

  • First, corporate tax rates need to be set to at least 15%.  
  • Second, jurisdictions must move away from income-based tax incentives and towards those based on expenditure or those that provide economic substance. 

Expenditure-based incentives 

Expenditure-based incentives include accelerated depreciation, tax credits, and investment tax allowances. Accelerated depreciation allows the cost of a business asset to be deducted faster than would usually be permitted. This increases the entity’s annual expenditure and reduces the income required to pay tax. Investment tax allowances work similarly, as some or all of the value of items qualifying for the allowance can be deducted from taxable income. Using these incentives is unlikely to result in additional liability under the GloBE rules. 

Tax credits operate slightly differently by writing off a certain amount from the entity’s tax bill. They are often granted to encourage businesses to undertake certain activities, such as investment in research and development. Most tax credits are non-refundable, meaning no refund is given if the credit takes an entity’s tax bill to below zero. Conversely, refundable tax credits refund any amount of credit exceeding the entity’s tax bill. Under financial accounting, refundable tax credits are generally treated as income.  

The GloBE rules further state that qualified refundable tax credits (credits payable in cash within four years of the entity satisfying the credit's conditions) are classified as income when calculating a constituent entity’s GloBE income. MNEs may want to consider using refundable tax credits if there is a risk that the threshold for applying the GloBE rules will be exceeded. 

Incentives with economic substance 

Some tax incentives are designed to provide economic substance to the jurisdiction providing them. These incentives often include a minimum investment requirement, a minimum number of employees, or the requirement to reinvest income benefitting from the relief.  

The GloBE rules provide a substance-based income exclusion (SBIE). Under the SBIE, an amount equal to 5% of the carrying value of tangible assets and payroll costs in a jurisdiction is exempt from top-up tax. This provides incentives with economic substance some protection from applying the GloBE rules. 

How CCH Tagetik Global Minimum Tax can help 

The introduction of the global minimum tax under the OECD's BEPS Pillar 2 framework represents a significant shift in the international tax landscape. Jurisdictions and MNEs must now navigate new rules that challenge traditional income-based tax incentives. To remain competitive and compliant, jurisdictions should consider adopting expenditure-based incentives and those tied to economic substance. 

CCH Tagetik Global Minimum Tax can be an invaluable tool in this transition. By providing comprehensive solutions for compliance and reporting, CCH Tagetik helps organizations accurately calculate their effective tax rates and assess the impact of the GloBE rules. With its advanced analytics and data management capabilities, CCH Tagetik ensures that businesses can optimize their tax strategies while adhering to new global standards. Embracing such technologies can help mitigate the negative impacts of the global minimum tax and support sustainable investment strategies. 

Learn more on CCH Tagetik Global Minimum Tax. 

tina duly
Manager, Content Product Management - CCH Tagetik

Tina Duly works in Content Product Management – Direct Tax at CP & ESG Tagetik. She manages a small team providing direct tax solutions to a variety of customers.

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