OECD Releases "Side-by-Side" Administrative Guidance Package

On January 5, 2026, the Organisation for Economic Co-operation and Development ("OECD")/G20 Inclusive Framework on Base Erosion and Profit Shifting ("Inclusive Framework") released an administrative guidance package ("Administrative Guidance") for the Pillar Two Global Anti-Base Erosion Model Rules ("GloBE Model Rules").^[1] This package includes the anticipated "side-by-side" ("SbS") system, as well as additional simplification measures and a new tax election for certain "substance-based" tax incentives. The Administrative Guidance can be found here.

The availability of these measures in a Pillar Two jurisdiction is subject to that jurisdiction taking the required steps to implement the measures into their domestic rules. Acknowledging the political context giving rise to the latest Administrative Guidance, and Canada's stated commitment to adopt a system that aligns with the Inclusive Framework's approach (subject to limited exceptions), it is expected that Canada will implement these measures.

Background

On June 28, 2025, members of the G7 issued a joint statement (the "G7 Statement") on the development of a "side-by-side" approach under which Pillar Two would co-exist alongside existing American minimum tax rules (including the global intangible low-tax income, or "GILTI", rules, now referred to as the "net CFC tested income", or "NCTI", rules). This consensus was reached in response to concerns raised by the U.S. administration that Pillar Two imposed "unfair" taxes, and threatened retaliatory taxes. The G7 Statement also committed to the simplification of the overall Pillar Two framework and to consider changes to the treatment of certain substance-based non-refundable tax credits. The Administrative Guidance reflects the agreement reached by the Inclusive Framework to give effect to the G7 Statement.

Key Measures in the Administrative Guidance

Side-by-Side System

The SbS system introduces two new safe harbours:

• the Side-by-Side Safe Harbour ("SbS Safe Harbour"); and
• the Ultimate Parent Entity Safe Harbour ("UPE Safe Harbour").

Multinational enterprise groups ("MNE Groups") that qualify for and elect into the SbS Safe Harbour will not be subject to the Income Inclusion Rule ("IIR") or the Undertaxed Profits Rule ("UTPR"). To be eligible for the SbS Safe Harbour, the ultimate parent entity ("UPE") of the MNE Group must be located in a jurisdiction that is a "Qualified SBS Regime". This requires the jurisdiction to have both an "eligible domestic tax system" and an "eligible worldwide tax system". MNE Groups electing under the SBS Safe Harbour will continue to be subject to Qualified Domestic Minimum Top-up Taxes ("QDMTTs") in the jurisdictions in which their constituent entities are located. The Qualified SBS Regime must provide a foreign tax credit for QDMTTs on the same terms as other creditable Covered Taxes.

MNE Groups that qualify for and elect into the UPE Safe Harbour will not be subject to the UTPR in respect of profits in the UPE jurisdiction (the application of the UTPR in other jurisdictions will not be impacted). The UPE Safe Harbour is available to MNE Groups with a UPE in a jurisdiction that is a "Qualified UPE Regime". A Qualified UPE Regime must have an eligible domestic tax system that was enacted and in effect as of January 1, 2026. A Qualified UPE Regime is not required to have an eligible worldwide tax system. The Pillar Two rules will continue to apply to the MNE Group outside of the UPE jurisdiction.

A jurisdiction must initiate a request to the Inclusive Framework in order for its tax system to be assessed for eligibility as a Qualified SBS Regime or Qualified UPE Regime. A jurisdiction that is determined to be eligible will be listed in the OECD's central record. As of January 20, 2026, the only jurisdiction with a Qualified SBS Regime is the United States; there are no Qualified UPE Regimes.

An eligible domestic tax system must generally have:

• a corporate income tax ("CIT") rate applicable to in-scope MNE Groups of at least 20% after taking into account preferential adjustments (i.e., tax deductions, exclusions, or credits of general application) and sub-national (e.g., state or provincial) corporate income taxes;
• a QDMTT (or other corporate alternative minimum tax applicable to in-scope MNE Groups that is based on financial statement income) of at least 15%; and
• no material risk that in-scope MNE Groups headquartered in the jurisdiction will be subject to an effective tax rate on their domestic profits of less than 15% (e.g., taking into account tax credits and incentives, as well as base erosion and profit shifting ("BEPS") measures intended to prevent such outcomes).

An eligible worldwide tax system generally requires:

• a comprehensive tax regime applicable to all corporations that taxes both active and passive income (subject to only limited policy-consistent exclusions) of controlled foreign companies on an accrual basis (i.e., whether or not distributed);
• substantial mechanisms to address BEPS risks (e.g., to prevent taxes on high tax income from offsetting tax liabilities arising from low tax income) that apply unilaterally; and
• no material risk that in-scope MNE Groups will be subject to an effective tax rate on foreign profits of less than 15%.

The SbS Safe Harbour and UPE Safe Harbour are intended to be available for fiscal years commencing on or after January 1, 2026 (where possible, relief is to be applied on a retroactive basis once enacted by a jurisdiction).

While the SBS Safe Harbour appears to have been designed for the United States, the Administrative Guidance contemplates that a jurisdiction could alter its tax system to meet the requirements to become a Qualified SBS Regime in the future. It appears the UPE Safe Harbour is intended to provide relief for MNE Groups headquartered in certain jurisdictions that have previously chosen to introduce a domestic corporate minimum tax for in-scope MNEs, instead of a QDMTT (e.g., Bermuda).

Simplified ETR Safe Harbour

The Administrative Guidance introduces a permanent Simplified Effective Tax Rate Safe Harbour ("Simplified ETR Safe Harbour") that is designed to replace the Transitional Country-by-Country Reporting Safe Harbour ("Transitional CbCR Safe Harbour"). Where the Simplified ETR Safe Harbour applies in a jurisdiction, the MNE Group's Top-up Tax for such jurisdiction is deemed to be zero.

Under the Simplified ETR Safe Harbour, an MNE Group's effective tax rate for a jurisdiction is determined according to a simplified calculation ("Simplified ETR"), with fewer adjustments than required for full GloBE computations. To elect into the Simplified ETR Safe Harbour in a jurisdiction, the Simplified ETR for the jurisdiction must be at least 15% (or the jurisdiction must have a loss under the simplified calculation). Certain entities (e.g., subject to certain exceptions, Stateless Constituent Entities and Investment Entities) are not eligible for the safe harbour.

The Simplified ETR for a Tested Jurisdiction is calculated by dividing the "Simplified Taxes" by the "Simplified Income". The starting point for the Simplified ETR is generally the financial accounting data used to prepare the MNE Group's consolidated financial statements, adjusted to ensure "integrity" (e.g., that all income is allocated to a jurisdiction and no taxes are counted more than once). An MNE Group may determine Simplified Taxes and Simplified Income using aggregate jurisdictional data, rather than entity-by-entity data, provided the MNE Group's data collection system reliably allocates income and taxes to jurisdictions in line with the GloBE Rules.

Basic adjustments to Simplified Income include removing Excluded Dividends and Excluded Equity Gains or Losses. Additional industry-specific adjustments or "conditional" adjustments may be required in certain circumstances, including for financial services and shipping industries, or to adjust for certain GloBE Entities to book differences resulting from M&A transactions (e.g., resulting from a step-up in basis).

Adjustments to Simplified Taxes include removing non-Covered Taxes and taxes on excluded income, adjustments for certain tax refunds or credits, and simplified adjustments for deferred tax liabilities and negative taxes in loss years.

In addition, a number of optional adjustments and elections may be available to an MNE Group, including in respect of tax adjustments after year end, the cross-border allocation of income and taxes of permanent establishments, and transfer pricing adjustments.

The Simplified ETR Safe Harbour is intended to be available for fiscal years beginning on or after December 31, 2026, with an option for jurisdictions to make it available for fiscal years beginning on or after December 31, 2025 in certain circumstances.

To be eligible to first elect into the Simplified ETR Safe Harbour for a jurisdiction, an MNE Group must not have a Top-up Tax liability in the jurisdiction in any fiscal year beginning in the 24 month period preceding the relevant fiscal year. Unlike the Transitional CbCR Safe Harbour, where an MNE Group fails to qualify for the Simplified ETR Safe Harbour in a jurisdiction in a particular year, the MNE Group may be able to requalify.

Extension of the Transitional CbCR Safe Harbour

To support the transition to the permanent Simplified ETR Safe Harbour, the Administrative Guidance extends the application of the Transitional CbCR Safe Harbour by one year to fiscal years beginning on or before December 31, 2027, but not including any fiscal year that ends after June 30, 2029. The transition rate for fiscal years beginning in 2027 will be 17% (i.e., the same rate as for fiscal years beginning in 2026).

The Administrative Guidance also states that work is ongoing in respect of a de minimis safe harbour and a routine profits safe harbour, which are intended to replace the tests that are currently available under the Transitional CbCR Safe Harbour.

Substance-Based Tax Incentive Safe Harbour

The new Substance-based Tax Incentive Safe Harbour ("SBTI Safe Harbour") allows MNE Groups to elect to effectively eliminate the Top-up Tax that would otherwise be attributable to certain substance-based Qualified Tax Incentives ("QTIs"), up to a cap, by providing for an offsetting adjustment to Covered Taxes.

Generally, a tax incentive qualifies as a QTI if it is calculated based on expenditures incurred (e.g., research and development) or the amount (i.e., volume of output) of tangible property (e.g., clean energy) produced in the jurisdiction, and is generally available to taxpayers (i.e., is not limited to in-scope MNE Groups). The QTI definition is intended to apply broadly to accommodate variations in tax policy and design across jurisdictions. It therefore does not limit which tax incentives are eligible based on the type of expenditure, or the form of incentive. Both refundable and non-refundable tax credits may qualify, as well as enhanced allowances or deductions. Accelerated depreciation deductions generally will not qualify if they only give rise to a timing difference (these are addressed through deferred tax adjustments). Subsidies and grants are also excluded.

The QTI allowance is limited by a "Substance Cap" equal to 5.5% of either payroll costs or depreciation in respect of Eligible Tangible Assets in the jurisdiction, whichever is greater. An alternative cap equal to 1% of the carrying value of Eligible Tangible Assets (excluding land and other non-depreciable assets) in the jurisdiction is available on a five-year elective basis.

The SBTI Safe Harbour is intended to be available for fiscal years that commence on or after January 1, 2026.

Conclusion

Overall, the Administrative Guidance contains welcomed simplifications to the GloBE Model Rules, and is expected to expand the Canadian tax incentives eligible for favourable treatment.

MNE Groups will need to monitor the implementation of these measures in the jurisdictions in which they operate, and will generally still require full GloBE computations (subject to the availability of the Transitional CbCR Safe Harbour) for their 2024 and 2025 fiscal years.

It remains to be seen whether Canada will proceed with implementing its UTPR for 2025, or defer to 2026 to align with the application of the SBS Safe Harbour. In any case, Canadian subsidiaries of U.S. parented MNE Groups will continue to be subject to significant GloBE reporting obligations, pending further work of the Inclusive Framework to streamline these requirements.

To view the original article click here

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.