Pillar Two - Domestic Minimum Tax - Draft Legislation Released for Consultation

Pillar Two - Domestic Minimum Tax - Draft Legislation Released for Consultation

Further to BDO’s update on 28 March 2024, Jim Chalmers announced the release of draft legislation implementing the global and domestic minimum tax regime in Australia, following from its announcement as part of the 2023-24 Federal Budget.

The government is seeking stakeholders’ views on the exposure draft subordinate legislation and explanatory statement with the consultation process open until 16 May 2024.

What you need to know

Who is affected?

  • Pillar Two applies to groups with a global presence with consolidated revenue of €750 million or more (approximately AUD$1.2 billion) for at least two of the last four years.

Why has Pillar Two been implemented?

  • Pillar Two is part of the OECD/G20’s Two Pillar Solution combatting tax avoidance by multinationals and implements a global minimum tax of 15 per cent.

What are the implications for affected clients?

  • Lodgement and payment obligations in addition to ordinary income tax obligations.
  • Pillar Two will imposes additional top-up tax on profits taxed at less than 15 per cent.
  • Additional calculation and lodgement obligations required irrespective of whether additional tax is payable.
  • The additional lodgement include:
    • GloBE Information Return
    • Australian GloBE Tax Return
    • Domestic Minimum Tax Return
  • Potential financial statement disclosures required for entities with a financial year ending 30 June 2024 if substantially enacted by 30 June 2024.

When do the measures apply?

  • The first lodgements are due by 30 June 2026
  • Top-up tax provisions apply to income years as follows:
    • Domestic Minimum Tax - Income years commencing on or after 1 January 2024
    • Income Inclusion Rule - Income years commencing on or after 1 January 2024
    • Undertaxed Profits Rule – Income years commencing on or after 1 January 2025

What are the implications if lodgement obligations are not satisfied?

  • Penalties apply for failure to lodge and align with those applicable to significant global entities (SGEs), ranging from $156,500 to $782,500.

The deep dive

What is Pillar Two?

In October 2021, Australia along with 135 other OECD/G20 member nations being part of the Inclusive Framework on Base Erosion and Profit Shifting (Inclusive Framework), agreed to the ‘Statement on the Two-Pillar Solution to Address the Tax Challenges Arising from the Digitalisation of the Economy’ (the Two-Pillar Solution). The Two-Pillar Solution aims to ensure that multinational corporations pay their fair share of tax in relation to profits earned where they operate.

Pillar Two broadly aims to implement a global minimum tax rate of 15% for large multinational enterprise groups (MNEs) with annual global turnover exceeding €750 million. Top-up tax is imposed under the charging provisions being the Domestic Minimum Tax (DMT), Income Inclusion Rule (IIR) and Undertaxed Profits Rule (UTPR).

The draft Australian legislation proposes the introduction of the Global Anti-Base Erosion Rules (GloBE Rules) which comprise the following interconnected taxing components:

  1. 15% global minimum tax for MNEs through the:
    • Income Inclusion Rule (IIR) - applicable to income years commencing on or after 1 January 2024 which imposes the top-up tax on Australian parent entities on behalf of group members with an effective tax rate of less than 15%.
    • Undertaxed Profits Rule (UTPR) - applicable to income years commencing on or after 1 January 2025, which applies if the parent entity of the group is located in a country that has not implemented the 15% global minimum tax. The UTPR imposes the 15% minimum tax on the members of the group that are in countries that have not implemented the 15%minimum tax in relation to the members of the group with less than 15% effective tax rate.
  2. 15% Domestic Minimum Tax (DMT) - applicable to income years commencing on or after 1 January 2024. This imposes a top-up tax on Australian members of the multinational group that have an effective tax rate of less than 15%, where the domestic minimum tax has been imposed it will reduce any tax payable under the IIP and/or the UTPR. Australia proposes to implement the DMT.

Taxpayers subject to the Rules

The Rules apply to large MNEs with annual global consolidated revenue exceeding €750 million, excluding intra-group revenue transactions, for at least two of the four previous income years. This means that groups can determine whether they are subject to the GloBE Rules at the start of each financial year.

A MNE is a group with a parent entity and at least one other controlled entity in another jurisdiction, or an entity with a permanent establishment in another jurisdiction.

The Rules provide exclusions for certain entities including entities that are generally either income tax exempt or tax neutral. Excluded entities include Government Entities, Not-for-profit entities, Parent Entities that are Investment Entities or Real Estate Investment Vehicles, and certain other special purpose service and non-profit entities.

How the provisions apply to impose top-up taxes

The DMT will apply in Australia to charge top-up tax domestically in Australia on low-taxed profits earned by Australian entities that are subject to the GloBE Rules. Top-up tax is charged to the extent that an Australian entity’s effective tax rate is below 15%. 

The IRR will apply in Australia to levy top-up tax in relation to low-taxed entities by imposing top-up tax on the Australian parent entity with a controlling interest in a low-taxed group member entity. A top-down approach applies meaning that:

  • where the Ultimate Parent Entity (UPE) is located in an implementing jurisdiction, it will generally be liable for top-up tax; and
  • where this is not the case, another entity further down the ownership chain with a Controlling Interest may be liable.

The UTPR is designed to act as a backstop by imposing top-up tax on low-taxed income earned by entities that are not subject to the DMT or IIR. In Australia the UTPR would be imposed on Australian entities that are subsidiaries of a foreign parent entity that is in a jurisdiction that has not implemented the IIP and there are entities in the group that have effective tax rates of less than 15% and those entities are in jurisdictions that have not implemented the DMT. Its application is expected to be minimal given the broad scope and number of implementing jurisdictions.

Franking Credits for top-up tax paid

Franking credits are available for DMT paid under the Australian legislation on the basis the DMT is considered a domestic corporate income tax, with franking debits arising for any DMT refunds received.

Franking credits are not available for top-up tax paid in Australia resulting from the application of the IIR or UTPR due to the top-up tax under an Australian IIR or UTPR being effectively tax paid on behalf of low-taxed entities operating in other jurisdictions outside Australia.

Interaction with specific Australian international income tax provisions

As part of the consultation process, Treasury has released a discussion paper providing stakeholders with the opportunity to provide feedback on the proposed policy relating to international aspects of the Australian income tax legislation. These measures include:

  • Foreign Income Tax Offsets (FITOs) – the proposed policy allows FITOs in relation to foreign DMT but is denied for foreign IIR or UTPR top-up tax.
  • Hybrid mismatch rules – it is proposed that the existing approach to hybrid mismatches continues to apply, being that the hybrid mismatch rules will not take into account top-up taxes imposed under a qualified domestic minimum top-up tax (QDMTT) regime, IIR or UTPR. This is because hybrid mismatch rules target the tax treatment of arrangements; whereas global and domestic minimum taxes are imposed on financial accounting profits.
  • Foreign hybrid entity rules – certain foreign hybrid limited liability partnerships and companies that are deemed partnerships for Australian income tax . These rules are expected to continue operating without change post implementation of the GloBE Rules. Treasury considers outcome should not change due to being levied tax under global minimum tax or QDMT.
  • Controlled Foreign Company Rules – should not allow a notional deduction for top-up taxes paid under a QDMT or UTPR. This is because CFC taxes paid in Australia as a result of attribution of the CFC’s attributable income are accounted for in the effective tax rate calculations for the CFC.

The compliance and reporting obligations

The following annual compliance and reporting obligations are proposed for MNEs who are subject to the Pillar Two regime, comprising:

  1. A GloBE Information Return - This annual return will be consistent with the GloBE Model Rules and will need to be lodged with the Australian Tax Office (ATO). Information disclosed includes the group’s corporate structure, jurisdictional effective tax rate calculations, group top-up tax allocations and any elections made.
  2. A DMT Return - This return will require information for the purpose of administering the GloBE Rules and specifically assess and collect any DMT liability. At this stage all Australian entities that are members of MNE Groups will be required to lodge a DMT Return with the ATO, whether or not they have to pay DMT. However, feedback is being sought in relation to this requirement including concessional lodgement obligations for consolidated income tax group members.
  3. An Australian GloBE Tax Return - This return will require information to enable the ATO to assess and collect any IIR and UTPR top-up tax liabilities. Where an IIR is applicable in Australia and the liable entity identified, that entity is required to lodge, even where the top-up tax payable is nil. These requirements also apply to permanent establishments (PEs) requiring the main entity to lodge on the PE’s behalf.

Assessments, Payments and Penalties

Top-up tax payments are due by the end of the 15th month after the end of a Fiscal Year. A concession has been provided for the first year such that payments and lodgements are not due until the end of the 18th month following the first fiscal year end, meaning that the first round of lodgements are not due until 30 June 2026 (i.e. for entities with tax years starting 1 January 2024). An extension has also been provided to entities with a shortened first Fiscal Year such that lodgements and payment obligations do not fall period to 30 June 2026.

Administrative penalties applicable to the GloBE Rules in Australia are as follows:

  • False or misleading statements – doubled for applicable MNE Groups where the statement is made in relation to GloBE top-up tax or DMT liability.
  • Administrative penalties for failure to lodge a return, notice or other document – 500 penalty units, consistent with those applicable to SGEs

The OECD Safe Harbours articulate a common understanding with regard to penalties and transitional arrangements, noting that penalties should not be applicable so long as ‘reasonable measures’ have been taken to ensure the correct application of the GloBE Rules. It is expected that Australia will adopt this approach given Australia’s cooperation with the Inclusive Framework to date, and the inclusion of this in the Explanatory Memorandum.

Documents released for consultation

The government has released the following documents as part of a consultation process with all key stakeholders. The consultation process invites submissions to be made to Treasury by 16 May 2024.

  • Primary Legislation – Imposition Bill imposing top-up tax under the Domestic Minimum top-up tax, the Income Inclusion Rule and the Undertaxed Profits Rule;
  • Secondary Legislation – Assessment Bill establishing the liability and framework for the global and domestic minimum taxes, including specific rules for the calculation of relevant amounts;
  • Consequential Amendments Bill - containing consequential and miscellaneous provisions necessary for the administration of the global and domestic minimum taxes; and
  • Discussion paper - in relation to approach to overall policy and potential amendments to specific areas of Australian International income tax legislation as part of the Pillar Two implementation process. Specifically, these issues include the hybrid mismatch rules, Controlled Foreign Company rules, Foreign Hybrids and FITOs.

IFRS® Accounting Standards

Financial Reporting Obligations

The legislation released is in draft form and should not be considered to have been substantively enacted in its current state. Although not yet substantively enacted, careful monitoring will be required as to the legislation’s progress through the consultation process and ultimately through parliament. As 30 June 2024 approaches, entities with 30 June year ends will be well placed to monitor the progress of the legislation to ensure that any relevant financial statement disclosures are made in relation to Pillar Two tax impacts.

More information is available through previous insight articles on the financial reporting obligations in respect to Pillar Two tax impacts:

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