Find out how the introduction of the minimum Corporation Tax rate will affect multinational groups.
The Finance Act 2023 received royal assent in July. It introduces to UK tax legislation the first elements of the OECD Global Anti-Base Erosion (GloBE) rules: a minimum Corporation Tax rate of 15% for large multinational groups.
In 2021, 136 of the 140 countries in the OECD Inclusion Framework agreed to implement the GloBE models that aimed to achieve a ‘floor’ for the level of tax competition between jurisdictions. Also known as Pillar 2, the initial plan was to bring in the rules worldwide from 2023. The primary measure of Pillar 2 is the income inclusion rule (IIR) – introduced in the Finance Act as the multinational top-up tax (MTT).
Although the framework for the regime globally has been internationally agreed by OECD member countries, each needs to incorporate the rules into domestic tax legislation. The UK is one of the first to do so through the Finance Act. EU jurisdictions are also required to implement the rules from 1 January 2024. But many other countries (notably the US) are much further behind and, in some cases, it is doubtful whether the rules will be implemented at all, let alone to the planned timeline.
A secondary Pillar 2 measure (the undertaxed profits rule) will act as a backup to prevent profit shifting to low tax jurisdictions where not captured by the IIR. These rules will be introduced later in most jurisdictions, and the UK is currently consulting on draft legislation for them to apply from 2025.
What are the principles of the MTT?
UK parent companies within the scope of the regime will need to consider, for each jurisdiction in which they operate, the accounting profits for each subsidiary against the current tax charge applied to those profits. Where a jurisdiction has an effective tax rate of less than 15%, the UK parent will pay the new tax to make up the difference.
It’s important that each jurisdiction is considered separately. Where the combined entities in one jurisdiction pay more than a 15% effective tax rate, these ‘overpayments’ cannot be offset to reduce the exposure from subsidiaries in other jurisdictions paying less than 15%.
UK groups will have to make a number of adjustments to both the profits and tax base for each jurisdiction to determine the scale of any potential charge. The chief aim is to remove the effect of intra-group dividends, equity sales or qualifying tax reliefs (such as R&D). The calculations will be complex, although not quite so challenging as under the existing UK CFC regime, where overseas profits need to be rebased to UK Corporation Tax principles.
What are the implications of a domestic top-up tax (DTT)?
The GloBE rules also state that where local legislation for an overseas subsidiary provides for a qualifying domestic minimum top-up tax, where the combined local mainstream Corporation Tax and top-up tax meet (or exceed) the 15% minimum rate, this should prevent further exposure to a global minimum tax charge for that subsidiary in the ultimate parent jurisdiction.
So it’s no surprise that most jurisdictions on the path to implementing the IIR locally are also introducing a top-up tax for subsidiaries based in their own jurisdiction. If a local subsidiary is undertaxed, leading to a charge from the parent jurisdiction, it is preferable to increase the tax base to the benefit of the local tax authority. The UK is no exception, and a 15% DTT will apply to UK subsidiaries of groups with over €750m income from 31 December 2023, wherever they are headquartered.
Which groups will be affected?
The MTT will apply to UK parented groups with global annual revenues over €750m in at least two of the previous four years, where there is any form of overseas presence in the group.
The DTT will apply to all UK subsidiaries and permanent establishments of groups that meet the same annual revenue criteria but do not fall within the scope of MTT, because either they are non-UK headquartered, or they do not have an overseas presence.
Implementation and requirements
The UK legislation will take effect for in-scope entities for year ends that begin after 31 December 2023. So, for many groups, the first period covered by the new taxes will be the year ending 31 December 2024.
There will be a one-time requirement for companies to register with HMRC when they first come into the regime. After that, groups will have 15 months from the accounting period end to report their top-up tax liabilities. It will also be the payment date for any associated top-up taxes. For the first year a group is in the regime, the 15-month window is extended to 18 months.
This means that affected groups running to a calendar year end should note that the first submission of the additional UK returns is due 30 June 2026, as is payment of associated top-up tax liabilities.
There are transitional safe harbour simplifications until 31 December 2026. These allow companies to apply data from CbCR reports (MTT) or financial statements (DTT) as an initial test to exclude groups from the requirement to carry out the more complex calculation and reporting considerations for some or all entities in a group.
If those reports clearly demonstrate that the group suffers an effective tax rate of 15% (rising by 1% per annum to 17%) in a jurisdiction (or the UK as a whole) the safe harbour election can be made to exclude the jurisdiction from full calculations.
What’s more, ‘small’ overseas subsidiaries can be excluded from the calculation for companies within the scope of the rules, where average revenue in the given jurisdiction is less than €10m and average profits lower than €1m.
What is the impact for large groups?
Whilst there may be commercial and non-tax benefits of operating in low-tax jurisdictions (which are secondary to the wider regulatory, commercial and operational benefits for the group) there is no ‘motive’ test to override such benefits under the Pillar 2 rules globally. Neither is there such an override in UK domestic legislation, and the application of the charge can be based solely on financial data. This means all large groups will need to consider their potential exposure to top-up taxes, both in the UK and overseas.
The formal introduction of the UK measures will enable UK groups and companies to determine their potential exposures to the new top-up charges arising in the UK from 2024. They will also be able to consider the accounting impacts in the first year that the charges apply. But the situation in other jurisdictions is inconsistent, with introduction of the rules and domestic changes to legislation running on differing timelines. So multinational groups will need to keep abreast of changes in the countries in which they operate, together with their forecasts, to establish exactly where the potential increased tax charges may arise.
The ‘per-jurisdiction’ (and non-consolidated) nature of the IIR applied globally will also encourage groups to review their structures and transfer pricing policies alongside the new rules. This will ensure that they don’t create unforeseen exposures. The risk arises that a group has a greater than 15% effective tax rate globally, but is exposed to additional tax charges in profitable low-tax jurisdictions.
If you would like more information or support on any of the issues raised in this article, please contact Chris Riley.