BEPS 2.0 Understanding The Two-Pillar Framework

GENESIS

On October 8, 2021, over 135 member countries of the OECD/G20 Inclusive Framework (IF) on Base Erosion and Profit Shifting (BEPS), representing more than 95% of global GDP, agreed to a Two-pillar solution to reform international taxation rules. Each pillar is aimed to address a different gap in the existing rules that allow Multinational Enterprises (MNEs) to avoid paying taxes. The reform is targeted towards ensuring that MNEs pay a fair share of taxes wherever they operate and generate profits in today's digitalized and globalized economy.

Pillar One seeks to adapt the international income tax system to new business models through changes to the profit allocation and nexus rules applicable to business profits. The Pillar One expands the taxing rights of market jurisdictions by allocating a portion of their residual profit based on formulaic approach. Further, it aims to significantly improve tax certainty by introducing certain dispute prevention and resolution mechanisms.

The Pillar One initiative has two elements, Amount A and Amount B. The Amount A, targets about 100 largest and most profitable MNEs, reallocating part of their profits to the countries where they sell their products and provide services. This ensures that these MNEs pay taxes in the market jurisdictions where they have significant customer base, rather than avoiding taxes by shifting base to lowtax jurisdictions. On the other hand, the Amount B aims to define, fixed return for certain baseline marketing and distribution activities as arm's length return, which is targeted to minimise global litigation related to profit margins of baseline distributors, thereby improving tax certainty.

Pillar Two aims to put a floor on global tax competition on corporate income tax rates through the introduction of a global minimum corporate tax for MNEs with annual revenues exceeding EUR 750 million. Under this rule, if a company's profits are taxed at an effective rate lower than the minimum rate in any jurisdiction, those profits will be taxed at a minimum rate of 15%. This shall end the harmful tax competition amongst jurisdictions and aggressive tax planning among MNEs. Additionally, Pillar Two also provides a treaty-based rule, Subject to tax rule (STTR), which targets risks to source countries posed by BEPS structures relating to intragroup payments that take advantage of low nominal rates of taxation in the other contracting jurisdiction. It allows the source jurisdiction to impose additional taxation on certain covered payments up to the agreed minimum rate (9%).

OECD estimates that under Pillar One, taxing rights on more than USD 125 billion of profit are expected to be reallocated to market jurisdictions each year. With respect to Pillar Two, the global minimum tax of 15% is estimated to generate around USD 150 billion in additional global tax revenues annually. In addition to this, developing countries are expected to gain further revenues under a treaty-based STTR which will allow countries to retain their right to tax certain payments made to related parties abroad which often pose BEPS risks, such as interest and royalties.

STRUCTURE OF BEPS 2.0

PICHUR

Key events in the BEPS 2.0 initiative journey are depicted in the chart below

PICHUR

BEPS 2.0 OFFERINGS

The two pillar solutions inter-alia offers the following:

• acknowledges the call from developing countries for more mechanical, predictable rules, and more generally, provides a redistribution of taxing rights to market jurisdictions based on where sales and users are located
• provides simplified solution to reduce global litigation around limited function/ risk distributors by providing standardised arm's length margins
• provides for a global minimum tax, which will help put an end to tax havens
• lessen the incentive for MNEs to shift profits out of developing countries
• reduce pressure on developing country governments to offer wasteful tax incentives and tax holidays

PILLAR ONE

Pillar One - Amount A: Profit allocation and nexus rules for about top 100 largest and most profitable MNEs

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Footnotes

1. OECD has proposed to review the threshold in future and target to reduce it to EUR 10 billion over a period of time.

2. A jurisdiction would be ADB jurisdiction if (i) sourced revenues are within 95-105% of the third-party revenues in that jurisdiction and (ii) cross-border transactions less than 15% of the sum of the total revenues or expenses in that jurisdiction

3. Defence purpose is determined by who the procuring party or user of the supply is, whether the supply is subject to export control regulation or whether disclosing information relating to the supply is prohibited by law.