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Business News/ Opinion / Global Minimum Tax: Reshaping the tax landscape
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Global Minimum Tax: Reshaping the tax landscape

The Pillar Two design of OECD comprises numerous interlocking rules that will ensure that covered multi-national enterprises pay a minimum tax while avoiding double taxation where there is no economic profit.

While 130 countries had agreed to implement OECD's Pillar Two, including India and all EU countries, presently over 55 countries are in the process of passing legislation. BloombergPremium
While 130 countries had agreed to implement OECD's Pillar Two, including India and all EU countries, presently over 55 countries are in the process of passing legislation. Bloomberg

The global tax landscape is witnessing a fundamental overhaul with the deliberation around and phased implementation of the Organisation for Economic Co-operation and Development’s (OECD) Pillar Two solution. This revolutionary initiative in global tax rules proposes to establish a Global Minimum Tax (GMT) that seeks to discourage tax evasion, base erosion and profit shifting by multinational enterprises. At its core, GMT will ensure that multi-national enterprises (MNEs) with revenues above EUR 750 million are subject to a 15% effective minimum tax rate, in whichever jurisdiction they operate.  

The Pillar Two design comprises numerous interlocking rules that will ensure that covered multi-national enterprises pay a minimum tax while avoiding double taxation where there is no economic profit. It will provide a mechanism to deal with differential tax systems of different jurisdictions and enable transparency with a level playing field. 

While 130 countries had agreed to implement Pillar Two, including India and all EU countries, presently over 55 countries are in the process of passing legislation. Countries such as France, Germany, UK and The Netherlands have already passed final legislation on enactment of Pillar Two, effective 2024. 

The GMT's impact will be multi-faceted: at its core, it will reshape MNE behaviour, investment flows, and tax revenues. Currently, certain MNEs seem to leverage incentivized tax regimes that lowers their effective tax rate (ETR). With GMT implementation, such practices are expected to decline considerably. 

As per OECD analysis, there may be a 50% average reduction in the ETR differential (14% - 7%) between investment hubs and other jurisdictions. With this, MNEs may re-evaluate their investment strategies, prioritize jurisdictions with strong infrastructure, skilled workforce, and innovation ecosystems, thereby resulting in a balanced distribution of global investment. 

The focus on non-tax factors could foster long-term economic growth (with investments in areas presenting the highest strategic and market advantages in line with their business needs), as MNEs seek sustainable returns beyond rates arbitrage. 

Secondly, GMT may also provide a significant increase in the tax revenues for administrations worldwide, still coping with the post-pandemic high fiscal deficit. Countries expect to gain annual global revenue of around $150 to 200 billion. Global low-taxed profit is estimated to be reduced by about 80%. This reduction stems from both the reduction in profit shifting and the application of top-up taxes. 

This additional tax income would, more importantly, boost governmental fiscal kitty, allowing for augmented investment in infrastructure, human capital, and public services. Revenue gains will depend on implementation decisions of jurisdictions. Jurisdictions not implementing the rules will forego revenues that would otherwise accrue to them. 

Thirdly, the Pillar Two solution can potentially decrease corporate tax rivalry across countries. At present, countries are known to lower their tax rates to draw investments, an approach which, though attracts extra investments, leaves them with lower tax revenue. 

By setting a universal minimum tax rate, countries can alleviate the risks of this "race-to-the-bottom" strategy. This could foster a steadier and more predictable worldwide tax climate beneficial to both governments and businesses. Countries would now need to figure out a way to design their incentives programmes, which attract investments but do not push the floor of 15% minimum tax.

As MNEs navigate the new rules, they seem to believe that they may face moderate or in some cases significant risk of double taxation due to global tax reforms. Hence, it is crucial for businesses to assess the impact of these new rules well before they are implemented by jurisdictions, to ascertain whether top-up tax will be applicable based on the specific computation mechanism or whether MNEs can avail transitional safe harbour regulations which have been clearly defined.

While GMT has significant potential to transform the international tax landscape for a higher good, implementing it across diverse legal systems presents operational challenges. Therefore, harmonizing the underlying rules and addressing administrative complexities will be crucial for smooth implementation. While overall benefits are expected, some sectors and countries may require targeted support to adjust. 

The implementation of Pillar Two necessitates a wealth of data points, that calls for a set process for effective collection and standardization. Companies will be obligated to submit a standardized Global Information Return (GIR), offering comprehensive details on Pillar Two tax. The GIR is distinct from the tax returns filed in various jurisdictions and would be submitted to a single tax administration, which would subsequently distribute it to other tax administrations in accordance with a qualifying competent authority agreement. 

In all, the GMT marks a significant step towards a globally coordinated international tax system. While challenges remain, the potential economic benefits are substantial, plausibly reshaping global investments, augmenting tax revenues, reducing tax competition, and spurring economic growth. Governments and businesses must work together to ensure smooth implementation and harness the positive economic and social impacts of this transformative policy. 

While tax leaders have a pivotal role to play in guiding businesses through this massive transition, governments will look to maximize the potential of this ground-breaking policy to drive sustainable economic growth and development.

Sameer Gupta is EY India Tax Leader

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Published: 24 Jan 2024, 12:48 PM IST
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