Based on enacted legislation and OECD guidance issued to date, several tax accounting challenges posed by the scope and significance of the global minimum tax are emerging. They include, for example:
Asking the right questions on data and building / implementing a calculation model
BEPS 2.0 Pillar Two introduces an entirely new tax system with significant new data requirements. MNEs should ask themselves: What new data is needed to calculate minimum tax and comply with Pillar Two reporting? Can they access all the required data from existing sources (for example, group tax provision, statutory tax provisions, tax compliance workpapers) or are new data sources needed? Do they want to build in-house systems, processes and tools to gather data, perform the calculations, and then compile the necessary reports, or will they rely on third-party tools and assistance? How can tax data be utilized more efficiently across reporting requirements to avoid duplication?
“There are definitely data and process gaps based on the completed readiness assessments I’ve performed to date. So, the overarching question is, how do companies fill the gaps?” asks Carla Mulherron, Tax Director at Ernst & Young LLP.
A comprehensive Pillar Two readiness assessment includes evaluation of the technical rules, data requirements, system and process requirements, as well as investment demands – people, technology and change management. When assessing data requirements, MNEs should first consider the various reporting needs for Pillar Two, including:
- Multi-year forecasting to support financial planning and analysis (FP&A) and budgeting (i.e., forecasted cash tax and effective tax rate (ETR) impacts of the new minimum taxes).
- Estimated annual ETR for 2024 interim financial statements.
- Minimum tax estimated payments to the various jurisdictions.
- 2024 year-end tax provision.
- Country-by-country reporting.
- 2024 minimum tax information reporting and tax compliance filings (to be completed in 2025 and 2026).
The various reporting needs outlined above are most commonly based on different datasets, for example, business unit forecasts, legal entity forecasts, and actual full-year financial results. MNEs will need to evaluate the availability, source, completeness, accuracy, and ability to timely produce and compile data from each dataset, often resulting in different data gaps related to each dataset. MNEs should anticipate challenges with getting timely access to relevant information and the need for process and workflow changes to generate new information and reorder when information is available for input into various reporting needs.
“Tax departments need to work with IT, finance and other stakeholders to align on changes to reporting systems and data-gathering processes to enable efficient and accurate Pillar Two reporting. This collaboration typically takes a long time to implement,” adds Sweet.
The precision of forecasted minimum tax liabilities will depend on the quality and availability of information to calculate the taxes. The inclusion of “adjusted covered taxes” in the calculation of a forecast GloBE ETR will require companies to forecast current and deferred tax expense, which is a more detailed calculation of forecast tax expense than is commonly prepared by MNEs when determining the forecast ETR for interim reporting. As actual financial results are realized, the precision of the GloBE ETR and minimum tax will improve, and when the GloBE information return is filed 15–18 months after a financial reporting year-end, the calculations will be the most refined.
“The first reporting requirement organizations will need to comply with is forecasting and group tax provision calculations, which are subject to varying materiality or precision levels,” says Mulherron.
“Similar to existing income tax filings, companies will need to prepare a true-up between the estimated global minimum tax included in the group tax provision and the actual minimum tax liability(ies) reported to relevant tax authorities. Given Pillar Two tax compliance may extend 15-18 months after a financial reporting year-end, the minimum tax calculations will be complicated further by managing calculations of multiple years simultaneously across several reporting periods.”
EY has performed several Pillar Two impact assessments for clients. The objectives were to understand the impacts of Pillar Two on the expected liability and impact to the group ETR, as well as how ready the MNE is to comply with the new tax regime for tax provisioning and tax compliance purposes.
Being aware of nuances within the Pillar Two rules
The GloBE rules are complex and introduce several new concepts as part of the minimum tax. Notably, as referenced above, this includes the concept of adjusted covered taxes to determine the GloBE ETR and, ultimately, any top-up tax. Rules related to minority owned entities, treatment of flow-through or other tax-transparent entities (e.g., partnerships), treatment of permanent establishments, safe harbors and transition period adjustments present additional challenges to navigate when calculating minimum tax. MNEs need to understand the technical requirements of the GloBE rules to avoid unanticipated tax liabilities.
Because, fundamentally, the global minimum tax is a multi-variable calculation, the interaction of the various inputs can yield unpredictable outcomes. For example, MNEs may incur top-up tax in “high tax” jurisdictions due to the interaction of tax credits or other “permanent” tax benefits with the recast of deferred taxes to the 15% minimum tax rate. MNEs also may incur top-up tax in “high tax” jurisdictions as a result of deferred tax liabilities not reversing within five years or current tax payments not being paid within three years. Under the GloBE rules, even entities generating tax losses can incur top-up tax. Moreover, the transition rules add further unpredictability by disallowing certain deductions in the calculation of GloBE income and phasing-in the substance-base income exclusion for payroll and property.
The GloBE ETR calculation is far more complex than a traditional financial statement ETR calculation companies routinely prepare for group and statutory reporting, Mulherron says. In fact, the nuances of the rules can yield minimum tax liabilities for companies with group ETRs of more than 50% . To avoid an unwelcome surprise tax liability, companies should methodically apply the detailed GloBE rules to their facts and circumstances before concluding whether they will incur top-up tax, she adds.
Increased scrutiny on tax account reconciliations and audit trail
Pillar Two will usher in a new era of transparency and give tax authorities more and better access to information that, in some cases, did not previously exist. Being able to reconcile between group GAAP, local GAAP, local income tax returns, country-by-country reports and GloBE tax filings will be key.
Tax authorities are going to have new information from Pillar Two that will allow them to form new analyses. “The added transparency of GloBE information returns and the global minimum tax calculation will give tax authorities more information on the operations of multinationals’ global businesses. Companies should expect tax authorities to ask different and better questions, or more pointed questions, about various tax matters,” says Sweet.