During October 2021, over 135 jurisdiction, which represents more than 90 percent of the cumulative global GDP unanimously agreed to a major international tax reform to address the challenges of uneven distribution of taxable profit in a digitalized economy. The reforms then fell under the Pillar Two solution (which is also referred to as the Global minimum top-up tax). The Pillar Two solutions proffers four (4) mechanisms which includes; Subject to Tax Rules, Income Inclusion Rule, Undertaxed Payment Rule and Domestic Minimum Tax. Individual countries are expected to execute the Global minimum top-up tax under any of the four (4) mechanisms.
The existential effects of applying the Pillar Two solution to ensure taxable profits are thereby evenly distributed falls under the applications of IAS 12 (Income Taxes) as corporations would need to consider the consequences of a resulting over or under provision of taxes on their current and deferred tax balance. To ensure the applications of IAS 12 principles are up to date and universal, preliminary changes to tax laws have commenced in the year 2023, with full-fledged changes coming to effect in year 2024. The effects of these changes would be evident in single and consolidated financial statements across various jurisdictions.
How Does The Reform Operate
Now that we have established the premise to why an International Tax Reform was established, the question should be; what the Global minimum top-up tax particularly entails, who is possibly liable to making such payments and how is it arrived at.
The What: The Global minimum top-up tax aims to ensure that large conglomerate of companies or corporations pay a minimum of 15% on the Income realized from the jurisdictions they operate within. Recall that the global minimum top-up tax is a synonym of the Pillar Two International Tax Reform. However it is worthy of notes that the Pillar Two International Tax Reforms is an offshoot of the Pillar One International Tax Reform which specifically aims at ensuring a fairer distribution of profits to and taxes claimable by the host jurisdictions that companies operate in. Therefore, it is seen that Pillar One is a precursor to Pillar Two, which both then aims at ensuring a minimum amount of taxable profits are payable by large multinational corporations within the jurisdiction they operate in.
The Who: Large multinational group of companies that have a consolidated revenue balance of €750 million or more in at least two (2) of the last four (4) financial years of reporting would need to be assessed for a possible minimum top-up tax payments. By implication, all large multinational corporations not reporting using the Euros would need to convert their consolidated revenue balances currently quoted in their local currencies to Euros, using the prevailing spot exchange rate given by their monetary authorities to determine if the €750 million or more in at least two (2) of the last four (4) financial years of reporting requirement is met or not.
The How: All large multinational corporations that have a consolidated revenue balance of at least €750 million would need to be assessed or tested for a possible minimum top-up tax default and this is arrived at by computing the cumulative average Effective Tax rate, which is the summation of all taxes paid by subsidiary companies in a particular jurisdiction divided by the summation of all revenues realized by the same subsidiaries in the given jurisdiction. If the computed Effective Tax Rate is less than 15%, then there's a default by that group of subsidiaries in that jurisdiction and a minimum top-up tax would be computed, which is simply the Top-up tax rate (which is the standard 15% less the Effective Tax Rate computed) multiplied by the Excess Profit (which is Global or Cumulative Revenue for all the said subsidiaries less all qualifying deductions). We would like to state that when computing the Effective Tax Rates and Excess profits, we expect a uniform Accounting Standard Framework (e.g IFRS Accounting Standards or US-GAAP) being used by all subsidiaries in the said Jurisdiction.
Who Can Actually Pay
To understand the paying or liable entity, let us use a hypothetical scenario. Entity A Group of Company can be a large consumer good producer domiciled in Jurisdiction A, B, C and D. Let's assume Entity A has five (5) subsidiary firms in Jurisdiction A, seven (7) subsidiary firms in Jurisdiction B, four (4) subsidiary firms in Jurisdiction C and eight (8) subsidiary firms in Jurisdiction D. When the test for a minimum top-up tax was conducted for all of Entity A's`subsidiary firms in Jurisdiction A, it was realized that the cumulative Effective Tax Rate was 25%, for subsidiary firms in Jurisdiction B; 13%, for subsidiary firms in Jurisdiction C; 11% and for subsidiary firms in Jurisdiction D; 30%. This implies that the defaulting groups are the collective subsidiaries in Jurisdictions B and C, as they are less than the 15 percent minimum tax rate. It is however worthy of notes that to meet up for this default, the paying company might be by the Ultimate Parent company in another entirely different Jurisdiction and remittances should be made to the local tax authority of the jurisdiction from where the defaulting subsidiaries are domiciled.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
