At their meeting on 4-5 June 2021, the G7 finance ministers expressed strong support for the ongoing work under the BEPS 2.0 project. Read here what this means for your organization and how EY’s proprietary tool can help you simulate the impact of Pillar One.
The OECD has been working towards a coordinated and multilateral consensus solution to the tax challenges arising from digitalization to avoid the multiplication of unilateral measures. This work has been performed under the G20/OECD Inclusive Framework project addressing the tax challenges of the digitalization of the economy (the BEPS 2.0 project).
Under the BEPS 2.0 project, changes to the global tax system are being developed under two pillars:
- Pillar One relates to new nexus and profit allocation rules
- Pillar Two relates to new global minimum tax rules
Pillar One is intended to change the allocation of taxing rights on business profits in a way that expands the taxing rights of market jurisdictions. It is commonly referred to as a significant reallocation of profits to market countries for the world’s “largest and most profitable companies”.
Pillar Two aims at ensuring that global business income is subject to at least an agreed minimum rate of tax. Pillar Two has gained a lot of momentum after the US under Biden’s administration threw its heavy weight supporting the proposal.
The confirmation of G7 support for the BEPS 2.0 project is an important step in advancing the work on the proposals for fundamental changes to global tax rules. Efforts are focused now on trying to achieve that consensus in connection with the 9-10 July 2021 meeting of the G20 Finance Ministers and Central Bank Governors.
Pillar One – How it will affect companies
Pillar One will have a significant impact on the taxation of revenues for in-scope multinational enterprises (“MNEs”). Its proposals represent a substantial change to the tax architecture and go well beyond digital businesses or digital business models.
The details on the implementation of Pillar One are still work in progress. However, the Blueprint published by the OECD is meant to be a “basis for future agreement” including essential elements of Pillar One. According to the Blueprint Pillar One contains the following three elements:
- New taxing rights for market jurisdictions over a share of the (deemed) residual profits of an MNE or segment of such a group (Amount A)
- A fixed return for certain baseline marketing and distribution activities taking place physically in a market jurisdiction (Amount B)
- Processes to improve tax certainty through effective dispute prevention and resolution mechanisms
Under Amount A new nexus rules will be established, which means that taxing rights will be reallocated to market jurisdictions. As a result, a portion of MNEs’ profits will be taxed in customers’ jurisdictions following a formulaic approach which goes beyond the arm’s length principle. Amount B will standardize the remuneration of baseline marketing and distribution activities in a manner that is aligned with the arm’s-length principle.
Scope of Pillar One
No final agreement has been reached yet on the exact scope and corresponding thresholds. However, the blueprint includes two types of tests that should be met, namely the activity tests and the threshold tests.
- Activity tests: This covers MNEs that fall in either or both of the following categories: automated digital services (ADS) and consumer-facing businesses (CFB).
- Threshold tests: The threshold tests for Amount A are divided into (i) a global revenue test (currently contemplated to be EUR 750 million or higher) and (ii) a de minimis foreign in-scope revenue test (the Blueprint uses a threshold of €250 million in an example).
The new taxing rights under Amount A will only apply to MNEs that fall within the defined scope.
According to the G7, Pillar One shall be applicable to the “largest and most profitable multinational enterprises”. However, the governments have different perspectives and objectives that will have to be balanced when determining the applicable thresholds and criteria. In particular, it remains to be seen whether a qualitative approach that would apply the quantitative rules to automated digital services and consumer facing businesses will be adopted or whether the US proposal for a quantitative approach only without regard to industry will be followed. In addition, the final agreement on the applicable quantitative thresholds and definitions will have a big impact on the number of companies that will be affected by Pillar One, e.g., if only the top 100 largest and most profitable companies will be included as proposed by the US or if the definition will be broadened and thus capture additional companies. However, even if initially only the largest companies would fall within the scope of Pillar One, the applicable thresholds may be lowered in the future once Pillar One is implemented and established practices are in place, meaning that additional companies could potentially be affected.
Process Chart – Amount A
How can companies prepare and how EY can assist
The proposals under Pillar One represent a substantial change to the tax architecture and go well beyond digital businesses or digital business models. If consensus will be reached, the proposals could lead to significant changes to the overall international tax rules under which businesses operate. It is important for businesses to follow these developments closely and evaluate the potential impact these proposed changes may have on their group.
EY has developed a tool that helps you analyzing and simulating the impact of Pillar One on your organization based on different input parameters. It further facilitates collecting the necessary underlying data to ensure your organization is ready once consensus is reached and the final reports are released.
How EY’s BEPS 2.0 Pillar One tool can help you:
- Perform the scoping tests for your group (both activity and threshold tests)
- Assess the impact of Pillar One based on different scenarios and varying policy input parameters for Amount A and Amount B and analyze profit reallocation and tax implications groupwide as well as by jurisdiction
- Visualize the outcome based on an interactive Power BI dashboard and identify necessary actions or mitigation measures
- Use the data visualizations for internal communication and decision-making by relevant stakeholders
- Identify missing information (e.g. source revenue on ADS and CFB) based on a dry run to ensure BEPS 2.0 Pillar One readiness