Global Minimum Tax (GMT) or Global Anti-Base Erosion Model (Pillar Two)
Background
The Organisation for Economic Cooperation and Development (OECD) has explained Base Erosion and Profit Shifting (BEPS) as ‘tax planning strategies used by multinational enterprises that exploit gaps and mismatches in tax rules to avoid paying tax’. The phenomenon was discussed in detail in the OECD publication ‘Addressing Base Erosion and Profit Shifting’ in February 2013, identifying existing opportunities and practices and broad action areas to address the associated concerns. An action plan was published on 19 July 2013 – ‘Action Plan on Base Erosion and Profit Shifting’ – which laid down fifteen action plans and prescribed the methodology for the same.
Tax Challenges Arising from Digitalisation were rightly identified as a key action item – Action 1. Various forums questioned the relevance of global taxation principles, developed in a brick-and-mortar environment, in this changing technological landscape. The advent of technology and digitalisation has resulted in three phenomena in the world of business – ‘scale without mass, reliance on intangible assets and the centrality of data.’ Reforms to address concerns and meet the challenges posed by the changing business models were seen as the need of the hour.
With a series of reports, publications and public consultations starting as early as October 2015, the Action 1 has evolved to what we now know as the ‘Two-Pillar Approach to Address the Tax Challenges Arising from the Digitalisation of the Economy’. Pillar One focuses on nexus and profit allocation, while Pillar Two focuses on a global minimum tax.
In February 2016, the proposed architecture of the Inclusive Framework on BEPS (“the Inclusive Framework”) was endorsed by G20 Finance Ministers. Today, over 140 countries and jurisdictions work together in the Inclusive Framework to tackle Base Erosion, enhance transparency, and improve coherence of international tax rules.
Overview
The Global Minimum Tax (GMT), envisaged in Pillar Two of the Framework, strives to tax large Multinational Enterprises (MNEs), with annual consolidated revenue of above EUR 750 million and having presence in more than one jurisdiction, at a minimum tax of fifteen percentage (15%) on their global profits. Pursuant to the approval received from the Inclusive Framework, the GloBE Model Rules were published in December 2021. The Rules require the MNEs to calculate the incomes and taxes on a jurisdictional basis. A Top-up Tax is levied if the Effective Tax Rate (ETR) for a jurisdiction is less than the GMT Rate i.e 15% to bring the total amount of tax in that low-tax jurisdiction up to the 15% rate. The top-up tax is computed on the income after applying a Substance- Based Income Exclusion (SBIE) – a carve-out based on payroll and tangible assets.
Collection of Top-up Tax
The Top-up Tax is collected either by the low-tax jurisdiction itself by imposing a Qualified Domestic Minimum Top-up Tax (QDMTT), or by another jurisdiction through two inter- locking rules of Top-up tax charge – (i) Income Inclusion Rule (IIR) and (ii) Under Taxed Profits Rule (UTPR).
• Lower-tax jurisdiction can retain their right to tax by imposing a QDMTT which allows such jurisdiction to impose an additional tax on the Constituent Entities in order to bring the ETR of the jurisdiction to the Global Minimum Tax Rate ie. 15%.
• The IIR follows a ‘top-down’ approach wherein the Rule is applied by the Ultimate or Intermediary Parent Entity(ies) imposes a Top-Up Tax on the GloBE Income of Low Taxed Constituent Entities whose ETR is less than the Global Minimum Tax Rate i.e 15%. As the name suggests, such Income is included in the Income of the identified parent entity charging top-up tax under this Rule.
• The UTPR works as a backstop to the IIR where the residual Top-up Tax is charged by the jurisdictions of the Component Entities distributed in an appropriate weighted ratio of tangible assets and employees. The UTPR may be operated either by denying certain deductions (which otherwise would have been admissible) or by levying an additional charge.
UAE and Global Minimum Tax
Introduction of UAE Corporate Tax Law
While the UAE Corporate Tax Law was introduced and applies to all financial years beginning on or after 1 June 2023, the UAE Ministry of Finance (MoF) also provided the following information with respect to Pillar Two:
• Underscoring UAE’s commitment to ‘addressing the challenges faced by tax jurisdictions internationally’ and its membership to the Inclusive Framework, the introduction of Corporate Tax also paved way to provide the appropriate framework for the adoption of Pillar Two Rules.
• Clarification that the Pillar Two Rules would not apply in the UAE in 2024 and that a public consultation would be initiated in the first quarter of 2024 to seek relevant inputs from the stakeholders with regard to the timing and design of the Pillar Two Rules.
• Intention to facilitate submission of Global Information Return (GIR) via the UAE authorities.
Amendment to the UAE Corporate Tax Law
In October 2023, Federal Decree-Law No. 60 of 2023 was released amending certain provisions of the Federal Decree-Law No. 47 of 2022 on the Taxation of Corporations and Businesses (UAE Corporate Tax Law). The amendment contained the following aspects:
• Introduction and definition of the terms ‘Top-up Tax’ and ‘Multinational Enterprise’ to the UAE Corporate Tax Law.
• The charging provision of the UAE Corporate Tax Law, Article 3, was amended to include the charging authority to impose Top-up Tax, based on a separate decision to be issued by the Cabinet.
• Article 65 of the UAE Corporate Tax Law was amended to establish and state that such Top-up tax collected shall be shared between the Federal and Local Governments, based on the relevant separate legislation in this regard.
• The provisions of the Top-up Tax shall come into effect at a date to be specified in a separate decision to be issued by the Cabinet.
Public Consultation
In March 2024, the MoF released a Public Consultation document, consisting of a Consultation Questionnaire and a Guidance Paper, seeking to gather views from the stakeholders on the policy design options for implementation of Pillar Two Rules. The document contained certain critical elements providing valuable insights to the stakeholders from the perspective of the authorities, though the document does not represent the financial policy position of the UAE.
• The OECD statement issued on 8 October 2021 allows jurisdictions to extend the applicability of the Rules to smaller MNE groups headquartered in their jurisdiction. If the UAE were to adopt the GloBE rules, the UAE does not intend to extend the applicability of the Rules to smaller UAE headquartered MNE groups.
• While the GloBE Rules allow for the revenue thresholds to be established in local currency, UAE considers it beneficial to maintaining the thresholds in Euro to promote coordination among jurisdictions.
• While a Substance-Based Income Exclusion (SBIE) is not mandatory, the UAE MoF proposes for the SBIE to be consistent with the outcomes of the GloBE Rules.
Active comments were sought from the stakeholders on the following aspects:
• Inputs and views on the preferred charge mechanism i.e IIR, UTPR or QDMTT.
• A potential increase in the UAE Corporate Tax Rate from 9% to 15%, thereby increasing the ETR for MNEs.
• Methodology to be adopted if UTPR was to be the charge mechanism – denial of deduction or a separate charge.
• Exclusion of Joint Ventures (JVs) / JV subsidiaries / Minority Owned Constituent Entities (MOCEs) from a probable UAE QDMTT and interplay with Safe Harbour status.
• Considerations for Stateless Flowthrough Constituent Entities and Permanent Establishments in the design of UAE QDMTT.
• Semantics of QDMTT liability allocation.
• Adoption of International Financial Reporting Standards (IFRS) for the purpose of QDMTT.
• Potential Income-based or Expenditure-based tax incentives.
Way forward for UAE
The UAE’s proactive approach to implementing Pillar Two rules demonstrates its commitment to international tax standards and combating tax avoidance. By engaging stakeholders through public consultation, the UAE aims to ensure that its tax policies strike a balance between compliance requirements and the needs of businesses operating within its jurisdiction.
Key considerations for the UAE include selecting the appropriate charge mechanism under GloBE rules, potentially increasing the corporate tax rate to align with the GMT, and providing clarity on various aspects such as denial of deductions and treatment of joint ventures. This decision would also be critical, considering that the UAE has a relatively low Corporate Tax of 9% and a 0% tax rate for Qualifying Free Zone Persons, seemingly reducing the ETR for in-scope MNEs.
As the UAE progresses towards adopting the GMT framework, stakeholders anticipate a seamless transition that maintains the country’s attractiveness for businesses while upholding global tax integrity standards. By effectively implementing Pillar Two, the UAE can strengthen its position as a responsible global citizen and a preferred destination for multinational investment.
