The Global tax agreement: overview / explanations

The global economy is facing numerous changes, with the introduction of the latest tax reform being one of the most notable. The Organisation for Economic Co-Operation and Development (OECD) proposal has been the subject of discussion since 2019. The reform is supported by two "pillars": Pillar One alters where major corporations pay taxes, which has an estimated $125 billion in profits-related effects; Pillar Two introduces the global minimum tax, which is expected to boost global tax receipts by $150 billion.

Over 130 OECD member countries approved the general framework for new tax regulations last October as a result of the organisation's deliberations. The agreement reached is set to bring about significant changes to the way in which multinational corporations pay taxes.

Agreement of the global tax agreement

The reform will see certain corporations pay a higher rate in tax in the nations where they have clients, although where their offices and base operations are located, they would pay a lower rate. The pact to be introduced would see a 15% global tax minimum that would raise earnings on low tax areas. The deadlines for the complete Pillar One agreement and Pillar Two implementations have been pushed back to mid-2023 and 2024, respectively, due to implementation delays and disagreements over specific policy issues.

Pillar 1 of the global tax agreement

For businesses with more than €20 billion in annual revenue and a profit margin of more than 10%, Pillar One contains "Amount A". For these businesses, a percentage of their profits would be taxed in the countries where they conduct business. It is estimated that 25% of profits over a 10% margin might be subject to taxation. The €20 billion threshold may drop to €10 billion after a seven-year review period.

Pillar 2 of the global tax agreement

The implementation of Pillar Two involves three primary regulations, plus a fourth one for tax treaties. These guidelines are intended for businesses with annual revenues exceeding €750 million. In December 2021, draft regulations were made public.

The first option is a domestic minimum tax, which would give nations the first opportunity to tax profits that are currently subject to rates below the minimum effective rate of 15%. The second is an Income Inclusion Rule, which establishes when a company's overseas income should be included in the parent company's taxable income. The minimum effective tax rate required by the agreement is set at 15%; otherwise, a company's home jurisdiction would be responsible for collecting additional taxes.

The Undertaxed Profits Rule, the third rule in Pillar Two, allows a nation to raise taxes on a corporation if a related entity in a different jurisdiction is subject to taxes that are lower than the 15 percent effective rate. The taxable profit is allocated according to the location of tangible assets and personnel if identical top-up taxes are imposed by multiple nations.

The "subject to tax rule" is the fourth Pillar Two rule and is designed to be used in a framework of tax treaties to allow countries to tax contributions that would otherwise only be subject to a low rate of tax. The tax rate under this regulation would be set at 9%. The adoption of the rules by all nations must be uniform if Pillar One is to be effective. By doing so, businesses would be spared from coping with various implementations of these methods around the world.

Pillar Two provides more freedom. Its framework serves as a blueprint that nations can use to create their own regulations. If enough nations abide by the regulations, a sizable portion of global corporate revenues would be subject to an effective tax rate of 15%.

Future of the global tax agreement

The pact will significantly alter the tax competitive landscape, and many nations will review their tax laws for multinational corporations. Many businesses will now be getting ready to comply with the rules in 2024 as of now.

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