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The Global Tax Deal From A to Z

Posted on Nov. 15, 2021
Eng Kiat Loh
Eng Kiat Loh

Eng Kiat Loh is the tax practice leader at Baker Tilly in Singapore.

In this article, Loh provides an A-to-Z glossary explaining the multilateral efforts to finalize and adopt the OECD’s two-pillar approach to reforming the international tax framework.

Copyright 2021 Eng Kiat Loh.
All rights reserved.

Given the recent triumphant headlines on various media platforms concerning the topic of corporate tax, one may easily perceive tax reform as a rare bright spark in these uncertain times — a time during which world leaders tackle concurrently other difficult issues, including COVID-19, climate change, and trade wars. Indeed, since the G-7 tax deal was announced in early June, the public has been fed regular progress updates: “136 Nations Agree to Biggest Corporate Tax Deal in a Century,” screamed the Financial Times on October 8. Just three weeks later, coverage of the G-20 summit in Rome saw Reuters carrying a report titled, “G20 Leaders Endorse Global Minimum Corporate Tax Deal for 2023 Start.”

In 2014 I published a piece in Singapore’s business broadsheet, The Business Times, titled, “What the BEPS Are We Talking About?” Back then, it was written in an A-to-Z explainer format. The primary objective was to educate, because the topic of base erosion and profit shifting was then new.

For the global tax deal, often also referred to as BEPS 2.0, I now present in this same alphabetical approach; however, with wide-ranging coverage of BEPS on many platforms, here I aim to also foster a more circumspect view of some of the terminology, perspectives, and issues involved.

A

Arm’s-length principle and amount A. When reference is made to the biggest change to the international tax framework in a century, this likely refers to the diminishing of the long-standing arm’s-length principle. This principle requires that a transaction with a related party be made under comparable conditions and circumstances as a transaction with an independent party. While the principle is still endorsed by the Inland Revenue Authority of Singapore as the gold standard to guide transfer pricing, in recent years the OECD is perhaps already opportunistically agnostic about it. This coincides with the emergence of amount A in the BEPS 2.0 lexicon, which allocates profits based on a formula and which may not be the same as the allocation of profits under the arm’s-length principle.

B

Biden administration. Often seen as the accelerating force in the global tax deal’s rapid progress since the change in the U.S. presidency, it may be easy for laypersons to overlook that the call for a global minimum taxation system draw inspiration from the Trump administration’s global intangible low-taxed income regime, as some experts have noted.

C

Carveouts. This refers to exceptions from applying BEPS 2.0 rules. One sector carveout is shipping, the taxation of which has largely been based on tonnage (outside the scope of corporate taxes).

Trade war or not, both China and the United States do seem to be aligned in this global tax deal, an outcome that may be partly explained by both countries being “remarkably similar in their aversion to using consumption and personal income tax instruments to raise revenue and their preference for the corporate income tax,” an argument seemingly put forth by the esteemed academic Wei Cui.1

Key rules relating to the global minimum corporate tax rate of 15 percent will “have the status of a common approach,”2 an interesting point also discussed later (see “Optionality”).

D

Digital services taxes. With new profit allocation principles to apply to the largest and most profitable multinational enterprises, the Big Tech businesses would seem to be most affected. However, while the final deal intends to scrap countries’ unilateral DSTs, U.S. tech giants could still benefit from BEPS 2.0. The United States’ threat to impose retaliatory tariffs, in arguing that DSTs unfairly target U.S. multinationals, should also diminish.

E

Effective tax rate (ETR). The global anti-base-erosion (GLOBE) rules will operate to impose a top-up tax using an ETR test; in and of itself, a country’s headline corporate tax rate is inconclusive as to whether the ETR will fail the 15 percent threshold. For example, while Singapore has a headline corporate tax rate of 17 percent, the government expects that a majority of affected MNEs with Singaporean presence will have group ETR below 15 percent in Singapore.

Economic impact assessment. Last year, the OECD produced an economic impact assessment relating to the BEPS 2.0 proposals and seemed to suggest that the main case for the proposals rested on the undesirability of an alternative scenario, in which trade wars would reduce global GDP by up to 1 percent in a worst-case scenario.

Some may regard this economic assessment to be self-serving: As pointed out by Wei Cui,3 the assumptions used for modeling the worst-case scenario is one in which “putting China and Hong Kong aside, every country is at peace with every other except the U.S.; the U.S. is at [trade] war with every other country; the U.S. violates its WTO obligations in respect of all other WTO signatories; and every other country is enforcing WTO obligations against the U.S.”4 He went on to question why this is not simply just an unmitigated disaster for the United States alone, as the rest of the world continues to cooperate, in objection to the OECD’s framing of the scenario as a disaster for the world and the end of international cooperation unless BEPS 2.0 proposals prevail.

F

Formulaic approaches. The mechanics to implement the BEPS 2.0 rules will involve extensive use of formulas. Examples include the approach to apply amount A and formulaic substance carveout considerations (under GLOBE rules).

G

GLOBE rules. Set to apply to MNEs that meet €750 million threshold, these form part of the rules designed to ensure profits of MNEs are subject to 15 percent global minimum tax regardless of where they are earned.

G-24. As a less prominent economic grouping in comparison with the key G-20 sponsors of BEPS 2.0, the G-24 represents the interests of developing countries in economic issues and has made submissions to the OECD inclusive framework secretariat. Suggestions include broader taxing rights under pillar 2’s subject-to-tax rule (STTR) and phasing out unilateral DSTs rather than abruptly cutting them off.

H

Hungary. With the country’s corporate tax rate of 9 percent — the lowest among EU and OECD members — it was clear why Hungary was initially reluctant to agree to the global minimal 15 percent floor on the corporate tax rate. The country’s argument on the lack of uniformity in accounting standards as one of its earlier pushback factors was, however, more puzzling. With key figures from consolidated financials using universal accounting standards (for example, international financial reporting standards or the U.S. generally accepted accounting principles) set to be used as starting points for BEPS 2.0 calculation purposes, reconciling between such accounting standards hardly seems the most difficult hurdle to cross.

I

Incentives and income inclusion rules. Incentives granting a preferential tax rate are set to lose their luster under the income inclusion rules (IIRs) that form part of interlocking GLOBE rules, although the jurisdictional blending approach (see below) may yet help preserve the case for some incentives.

J

Jurisdictional blending approach. Put simply, it refers to the approach that the ETR for GLOBE purposes should be calculated on a per-country basis. For example, an MNE group has two Singaporean subsidiaries — SingCo A, which enjoys a 5 percent tax incentive, with net profit and taxable profit both $100 million; and SingCo B, taxed at a 17 percent headline rate, with net profit and taxable profit both $600 million. Assuming no other relevant figures, the MNE group’s jurisdictionally blended ETR in Singapore would be approximately 15.3 percent (5 percent of $100 million) + (17 percent of $600 million), divided by ($100 million + $600 million). This means that this MNE group would not fail the 15 percent ETR threshold in Singapore despite having a 5 percent tax incentive for part of its Singapore operations.

K

Kenya. It is one of four countries explicitly named for not having joined the landmark tax deal. The others are Nigeria, Pakistan, and Sri Lanka. The United Nations consists of 193 member states. This means that at least 57 territories, or close to 30 percent, have not committed to the deal, which indicates that the world authorities are not in solidarity. The four countries referenced herein have found themselves with no support and are being singled out by the OECD as distinct minority outliers.

L

Largest. The current plan is that pillar 1 will initially apply only to the largest companies, with global turnover above €20 billion and profitability above 10 percent. Because players in extractives and regulated financial services are excluded, the initial estimate is that about 100 companies will be affected by pillar 1, which is focused on reallocation of profits to market jurisdictions.

M

Multilateralism. This is the theme of the day. For example, amount A will be implemented through a multilateral convention, which could entail having over 130 member countries of the OECD/G-20 inclusive framework sign onto a treaty to ensure that initially only 100 companies pay more taxes in market jurisdictions in the pillar 1 context.

N

Novel. The continued presence of linguistically awkward nomenclature such as amount A and amount B in the ongoing pillar 1 discussions may add fuel to the narrative that these are novel developments. This perceived novelty persists even though it’s been at least two years since the related concepts emerged prominently in the public sphere. Moreover, there is contention within academia that the idea of amount A is conceptually derived from the use of a sales factor by U.S. states to allocate corporate income as part of their formulary apportionment system — a usage that dates back to the year 1911!

O

Optionality. While headlines like “136 Nations Agree to Biggest Corporate Tax Deal in a Century” seem impressive and suggest each committed jurisdiction would have to ensure that it changes the relevant tax laws as appropriate (for example, if its corporate tax rate was not already at least 15 percent), the status of a common approach (OECD parlance) effectively means that some rules simply are not mandatory. This was adroitly addressed in a recent Hong Kong publication, where Wei Cui pointed out that the global minimum tax is optional.5 “All that Hong Kong had to agree to is that it would not object if other countries adopted it. If large MNEs headquartered elsewhere are subject to additional tax in their respective countries because their income earned in Hong Kong is taxed at less than 15 percent, Hong Kong promises not to complain,” he noted.6

P

Pillars 1 and 2. Focusing on the largest companies and MNEs that meet €750 million threshold, pillars 1 and 2 are not inconsistent with the application of the Pareto principle, which states that for many outcomes roughly 80 percent of results comes from 20 percent of the causes, or the vital few.

Q

Quick implementation. It is hoped that shortly after the FIFA World Cup 2022 in Qatar at least some key parts of the rules — such as amount A and the IIRs — will come into effect within 2023.

R

Rest in peace to tax incentives? This is possibly the outcome for some tax breaks (although see also “Jurisdictional blending approach”). Here in Singapore, if this is true, one may well be entitled to feel aggrieved, because it’s been only a few years since we participated in the Forum on Harmful Tax Practices’ peer review of tax incentives that met the requisite standards under BEPS 1.0.

S

Small and medium-size enterprises. One may well form the impression that this category should not be affected by the tax proposals in both pillars. This may be a myth of sorts, particularly if “SME is not a term defined at the international level,” as noted by the OECD.7 Broadly, the STTR is “an integral part of achieving a consensus on Pillar Two for developing countries” and is intended to “address remaining BEPS risks by restoring to source jurisdictions a limited right to apply a top-up tax” based on specific related-party payments resulting in low-tax outcomes in the recipient’s jurisdiction, to bring the tax on those payments up to an agreed minimum rate.

The OECD has noted that “a size threshold applying for the purposes of the STTR does not need to align with the EUR 750m threshold applying for the purposes of the GlOBE.”8 Further, it is my understanding that the threshold question in this context is still being discussed.

T

Trade wars and retaliatory tariffs. These are a seemingly convenient justification for some BEPS 2.0 proposals. See the economic impact assessment discussion above to challenge this narrative.

U

Undertaxed payment rule (UTPR). As a secondary part of the interlocking mechanism within the GLOBE rules, this rule can deny deductions or require an equivalent adjustment to the extent low-taxed income is not subject to tax under an IIR. Because the UTPR is relatively complex, the timeline now suggests delaying its implementation until one year after the IIRs take effect.

V

Vessels. While empty ones make the most noise, cynics could point to the vociferous discussions of the tax deal in the media as showboating without substance. My reference to vessels is, of course, simply to use vernacular differences because the GLOBE rules exclude international shipping income. For further explanation, see “Carveouts.”

W

Worldwide basis of taxation. While many countries adopt such a basis, Singapore does not. Some of the upcoming rules, such as pillar 2’s STTR, could well trigger the debate on whether Singapore’s form of quasi-territorial taxation requires repositioning toward a worldwide basis approach of sorts.

X

X factor. This is possibly a confident and succinct description for the oft-stated narrative that investors are attracted to Singapore for many nontax reasons, such as its stability, geographical location, and other “soft” factors such as its strong rule of law, skilled workforce, and focus on bilingualism. Therefore, even with lesser room for tax incentives (see also “Incentives and income inclusion rules” and “Rest in peace to tax incentives?”) in the years ahead, that will not X (or cancel) Singapore.

Y

U.S. Treasury Secretary Janet Yellen. Part of the Biden administration, she seems confident there would be no yo-yoing by the United States in proceeding with both pillars. Yellen’s confidence could stem from the following:

  • Pillar 1. Because this would probably require treaty changes, at least two-thirds of Senate support will be needed. Yellen has stated, however, that she believes that taxing rights reallocation for big multinationals would hold some bipartisan appeal because it is set to replace DSTs, a bane especially for U.S. Big Tech.

  • Pillar 2. Because this would require changes to U.S. domestic legislation rather than its treaties, there seems to be acceptance that eventually the rules would clear the Senate with a simple majority. And because the mechanics of a global minimum tax can be broken down into a promise not to complain when others increase their tax rates rather than an undertaking to increase one’s own, it would seem somewhat hypocritical if the leader of the free world were to walk away at this advanced stage and protest, when others who raise their tax rates as a result of pillar 2 are simply respecting the agreed approach and exercising their tax sovereignty rights.

Z

“Net zero by 2050. Blah, blah, blah.” One of the items for which Swedish activist Greta Thunberg recently mocked global leaders, saying their words sound great but “so far have not led to action.” On balance, most would agree the BEPS 2.0 package is action-packed and a deal still being pursued with plenty of zeal. If anything, it is more rah-rah than blah, blah, blah.

FOOTNOTES

1 Wei Cui, “What Does China Want From International Tax Reform?Tax Notes Int’l, July 12, 2021, p. 141.

3 Cui, “New Puzzles in International Tax Agreements,” SSRN, at 16-17 (July 27, 2021).

4 Id.

6 Id.

7 OECD, “Tax Challenges Arising From Digitalisation — Report on Pillar Two Blueprint” (Oct. 14, 2020).

8 Id. at 628.

END FOOTNOTES

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