Update to guidance on GloBE rules

1

Currency Conversion

1.1, 1.2, 3.1.3, 4.6.1, 4.6.4, 5.5.1, 6.1.1, 9.3.2, 10.1

The GloBE rules include various monetary thresholds expressed in euro.  In addition to the group revenue scope threshold (EUR750m), further examples are the de minimis jurisdiction rule (EUR10m revenue and EUR1m profit/loss), and the material competitive distortion between certain accounting standards and IFRS (EUR75m).

The AG provides for an annual rebasing of thresholds in non-euro currencies using the average foreign exchange rate in the month of December. 

2

Deemed Consolidation Test

1.2.2, 10.1

As noted above, the AG clarifies that the deemed consolidated test will not require the preparation of CFS in a case where the Authorized Financial Accounting Standard explicitly permits non-consolidation. For example, IFRS10 permits qualifying investment entities to reflect investments at fair value in their financial statements, rather than consolidating them. Illustrative examples set out the case where the investment entity is covered by IFRS 10 and the deemed consolidation rule does not apply. Also set out is the case where a privately held investment holding company is not covered by IFRS10, and the deemed consolidation rule applies.

3

Consolidated Deferred Taxes Amounts

4.1.1

The AG clarifies that deferred tax expense with respect to a CE should be included in the Deferred Tax Adjustment Amount, even when the expenses are recorded in the MNE Group’s consolidated financial accounts, rather than the financial accounts of individual CEs.

4

Sovereign Wealth Funds (SWFs) and the UPE definition

1.4.1, 10.1

The AG confirms that SWFs are not to be treated as the UPE of an MNE Group. This covers the case where the SWF cannot avail of the IFRS 10 investment entity consolidation exclusion, e.g., where there is no defined exit strategy for the SWF investments.

5

Clarifying the definition of Excluded Entities definition

1.5.2

The GloBE rules provide for an extended definition of excluded entity. The definition also includes an entity, 95% held by an excluded entity, which holds assets (or invests funds) for the excluded entity; or which carries out functions ancillary to those of the excluded entity.

An example might be an investment holding SPV held by an (excluded) investment fund. The AG confirms that the 95% held entity can qualify as excluded where it both holds assets (invests funds) and performs the ancillary functions. Commentators had wondered whether the SPV was required to do one or the other, but not both.

6

Application of Revenue Threshold to Non-Profit

Organizations (NPOs)

1.5.2

An excluded entity will not have its income subject to GloBE top up tax, but it can still be a member (including UPE) of a MNE group for GloBE purposes. The revenues of an excluded entity will be considered, as part of the group CFS revenue number, when determining whether the group exceeds the EUR750m threshold.  This could leave the trading subsidiaries of (excluded) NPOs such as universities or international aid organisations exposed to GloBE tax.

To address this the AG calls for an assessment of whether the revenue of the trading subsidiaries falls under a certain threshold. If it does then the subsidiary will be regarded as conducting ‘ancillary’ activities, and can itself be considered as an excluded entity for the purposes of the GloBE rules under Article 1.5.2(a)(ii).  The revenue threshold for the trading subs is the lower of EUR750m or 25% of the revenue of the MNE group. 

7

Intra-group transactions accounted at cost

6.3.1

The design of the GloBE rules assumed that the accounting treatment of intra-group transfers of assets would reflect fair market value. This would generally be the case for accounts prepared under IFRS but under other accounting standards transfers can be booked at historic cost. 

To address the distortions that might otherwise occur, the AG provides that an arm’s length price must be used to determine the GloBE income/loss of the disposer, where the transaction occurs cross-border. This is stated to be pursuant to the arm’s length principle rule in Article 3.2.3. The AG also notes that further guidance may be developed in relation to the acquirer to avoid double tax outcomes arising.

This AG item might be viewed as constituting some expansion in the application of Article 3.2.3. The March 2022 Commentary indicated that for Article 3.2.3 to be triggered there would need to be a transfer pricing adjustment.

8

Excluded Equity Gain or Loss and hedges of investments in foreign operations

3.2.1

The GloBE rules provide that gains/losses on the disposal of (non-portfolio) equity interests will be excluded from GloBE income. The exclusion also extends to fair value gains/losses on such equity interests, and profit/loss from ownership interests which are subject to equity method accounting.  To the extent that such equity interests are denominated in a currency different from the functional currency of the holding entity, the MNE may choose to use hedging instruments. The AG provides an election to treat gains/losses on the hedging instruments themselves as also being excluded gains/losses.

9

Excluded Dividends – Asymmetric treatment of preference shares

3.2.1

The AG places a limitation on the GloBE income exclusion for dividends from (non-portfolio) equity interests.  This is intended to deal with ‘accounting mismatches’ in relation to intra-group financing.  For example, take the case where Co A holds preference shares issued by related party Co B. Co A accounts for this as equity, while Co B accounts for this as debt financing (though for local tax purposes Co B may still treat it as equity).

The Co B accounting treatment of dividend payments as interest, which would be followed by the GloBE income computation, would reduce the ETR denominator and raise the ETR – this is seen to be prone to GloBE tax planning.  In consequence, the AG clarifies that Co A must be treated as receiving interest for GloBE purposes (i.e., conform recipient treatment to the accounting treatment of issuer Co B). This thereby limits the use of the GloBE dividends exclusion.

To the extent that other forms of financing instrument are bifurcated by Co B into debt and equity elements there would be a proportional decrease in the amount treated as excluded dividends by Co A.

10

Covered Taxes on deemed distributions

4.3.2(e)

The GloBE rules allocate taxes paid in respect of distributions to the CE that made the distribution. The AG clarifies that this also applies to taxes imposed on deemed distributions.

11

Treatment of debt releases

3.2.1

The AG excludes debt release-related income, booked to the accounts, from GloBE income. Conditions apply, including that the income must be exempt from domestic tax and the debt release must occur in the context of a corporate rescue.

12

Accrued Pension Expenses

3.2.1

The GloBE rules, at Article 3.2.1(i), allow pension liabilities as expenses in the computation of GloBE income. These are allowed to the extent of the contributions to a pension fund during the fiscal year. This treatment is intended to better align GloBE income with local tax base calculations and neutralize differences between accounting standards that book pension fund income via OCI or via the income statement.  The AG makes several clarifications.

Firstly, if a company actually pays pensions to its retired employees, rather than paying them to a fund, then Article 3.2.1(i) has no application.  These direct pension payments are taken into account as accrued in the accounts.  Secondly, GloBE income adjustments may be made in the case where pension fund earnings exceed the pension expense for the current year, and the surplus is brought to the income statement. This depends on whether the surplus is being retained by the pension fund or returned to the MNE.

13

Equity Gain/Loss Inclusion Election and Flow-Through Tax Benefits

4.1.3(a)

As noted above, the AG provides clarifications on the treatment of tax credits accessed via tax transparent entities, accounted for using the equity method. It also provides a new election in relation to equity gains/losses.

14

Excess Negative Tax Carry-forward guidance

4.1.5 and 5.2.1

As noted above, the AG ‘softens’ the effect of Article 4.1.5.  It provides for the elective calculation of an Excess Negative Tax amount, where the original Article 4.1.5 approach would have imposed GloBE top up tax.  This is then carried forward and can reduce the ETR of a subsequent profitable year, potentially leading to the payment of further top up tax at that time. 

The same mechanism is used to avoid the possibility of top up tax rates higher than 15%, modifying the application of Article 5.2.1. In a year where the GloBE ETR is determined to be negative in a jurisdiction, an Excess Negative Tax amount is calculated and carried forward.  This would reduce the ETR in a later year.

15

CFC Tax Allocation

 4.3

As noted above, the AG sets out how CFC tax is to be attributed over jurisdictions. The attribution mechanism uses a ‘tracing approach’ in some instances and an allocation approach in other instances.  The latter is used for allocating Blended CFC Tax Regimes that aggregate income and taxes of CFCs in different jurisdictions.

16

Loss-making Parent Entities of CFCs

4.4.1(e)

The GloBE rules, in Article Art 4.4.1(e), provide that DTAs recognised in respect of tax credits will be disregarded for GloBE purposes.  The AG provides an exception to this for foreign tax credit DTAs in certain circumstances. The exception is applicable where a Parent Co is in a loss position in a year in which its CFC rules apply to the profits of Sub Co. 

In this case the CFC tax on Sub Co profits may be offset by Parent Co’s tax losses, and the FTC for Sub Co tax is carried forward.  In this case the AG allows for Art 4.4.1(e) to be set aside, and the DTA for the FTC is recognised for GloBE purposes.

17

Application of Article 7.6 to Insurance Investment Entities

7.6

The GloBE rules, in Article 7.4, require that ETR and top up tax calculations are done on a separate entity basis for investment entities and insurance investment entities.  This being said, Articles 7.5 and 7.6 can attribute the income of these investment entities to the entities that own them for GloBE purposes. 

An Article 7.5 election can be made when the owner is subject to a mark-to-market tax regime in respect of fair value changes in the investment entity.  An Article 7.6 election can be made to the extent that the investment entity makes distributions to the owner within a 4 year period.

The initially drafted GloBE rules provided that Article 7.5 could cover insurance investment entities as well as investment entities, but Article 7.6 did not. The AG now provides for this.

18

Intermediate Parent Entity (IPE) - Exclusion of insurance investment entities

3.1.3

The AG clarifies that the definition of IPE, which excludes investment entities, also excludes insurance investment entities. 

19

Restricted Tier One Capital

3.2.10

The GloBE rules, in Article 3.2.10, treat the Additional Tier One Capital for banks in the same way as debt instruments. While these instruments may be treated as equity for accounting purposes, the GloBE rules treat payments on them as deductible in the same manner as interest. The AG now provides for the same treatment for Restricted Tier One Capital issued by insurance companies.

20

Liabilities related to Excluded Dividends and Excluded Equity Gain or Loss from securities held on behalf of policyholders

3.2.1

The GloBE rules provide GloBE income exclusions for gains/losses on the disposal of (non-portfolio) equity interests and for dividend income from equity interests (other than short-term portfolio holdings). For simplicity the GloBE rules do not disallow expenses relating to these excluded income amounts.  However, the AG now introduces an exception to this where insurance companies hold equity investments on behalf of policyholders, e.g., unit-linked insurance.

Under such arrangements the insurance company must pay all investment earnings to policyholders, less an investment management fee. To avoid the situation where the company will have excluded income, but still get a deduction for the liability recognized to policyholders (giving rise to a GloBE loss), this movement in insurance reserves will now be treated as non-deductible.

21

Simplification for Short-term Portfolio Shareholdings

3.2.1

The GloBE rules provide a GloBE income exclusion for dividend income from equity interests, other than short-term portfolio holdings.  This then places a burden on in-scope MNEs to prove equity holding periods. As a simplification, the AG now provides for a 5-year election to include all dividends in GloBE income. It is expected that this election will largely be used by insurance companies but it is open to all groups.

22

Application of Article 7.5 to Mutual Insurance Companies

7.5

Mutual insurance companies are owned exclusively by their policyholders. As all investment returns are due as liabilities to policyholders, the mutual insurance company has no profit from an accounting perspective.  However, where the mutual insurance company controls an investment entity (a separate CE for GloBE purposes) it may be that the investment income is at investment entity level but the offsetting liability to policyholders is at the mutual insurance company level.

An Article 7.5 election, which would attribute the investment entity income to the mutual insurance company (and allow for income-liability offset), requires that the mutual insurance company be taxed under a mark-to-market tax regime (which is typically not the case).  The AG relaxes this requirement in the case of mutual insurance companies, allowing the Article 7.5 election to be used.

23

Deferred tax assets with respect to tax credits under transition rules

9.1.1

As noted above the GloBE rules, in Article Art 4.4.1(e), provide that DTAs recognised in respect of tax credits will be disregarded for GloBE purposes both in the year the credit is generated and used.

However, the GloBE Commentary was initially not clear on how this would interact with the transition year rules. Article 9.1.1 provides that an MNE is permitted to take into account “all” of the DTAs and DTLs reflected or disclosed in the accounts for the transition year. The AG confirms that this means that 4.4.1(e) does not apply to transition DTAs. At the same time the AG provides a simplified approach to recasting the DTAs for tax credits where they are booked at rates higher than the 15% minimum rate.

The AG also sets out special provisions dealing with refundable tax credits that accrued prior to the beginning of the transition year. For context, the GloBE rules differentiate between qualified refundable tax credits (QRTCs) and non-qualified refundable tax credits (NQRTCs).

The AG deals with the specific case where NQRTCs, which accrued prior to the beginning of the transition year (and which are carried forward for use in later years), were booked as an increment to income for accounting purposes.  Due to such accounting treatment, there will be no transition DTA recognised. By contrast, had the NQRTC been booked in the accounts as relating to a future reduction to income tax expense (in line with its GloBE treatment) then a DTA would have been recognized.  In a later year (in-regime), when the NQRTC is settled, the income tax expense will be reduced. Under the GloBE rules this will lower Covered Taxes and the ETR numerator for that year.

To preserve the overall neutrality of the GloBE rules, the AG provides that  Covered Taxes  will not be reduced in the year of settlement of the NQRTC, i.e., the Covered Taxes number will be ‘artificially’ held up in that year.  

24

Asset carrying value & deferred taxes under transition rules

9.1.3

The GloBE rules, in Article 9.1.3, provide for special treatment of intra-group asset transfers after 30 November 2021 and before the start of the MNE group’s transition year.  The intent of the provision is to limit the ability of MNEs to enter into inter-group transactions during the pre-GloBE period that increase asset carrying values and thereby reduce GloBE income, e.g., through elevated depreciation and amortization expense, without the corresponding gain be included within GloBE Income. Specifically, Article 9.1.3 provides that, for the acquiring CE, its basis in the transferred assets will be based on the disposing CE’s carrying value of the assets upon disposition.

The acquiring CE’s DTAs and DTLs for GloBE purpose will be determined on this basis. The AG provides additional clarity on how Article 9.1.3 is meant to be applied.

The AG deals with both the case where an intra-group transfer is booked at cost at the level of the acquiring CE, and with the case where it is booked at fair value. 

Starting with the case where the transfer is booked at cost, it is noted that a DTA could be recognised at the level of the acquiring CE. This could be because the acquiring CE’s local jurisdiction recognises a higher base cost for tax purposes, for example where the transfer consideration was higher than the historic cost at which the transfer was booked. 

The AG provides that recognition of this DTA for GloBE purposes is dependent on tax being paid, by the disposing CE, on the gain on transfer. To the extent that the gain is taxed at 15% (or above) the acquiring CE can recognize the DTA at 15%; lower levels of tax on the gain will lead to proportionate reduction in the quantum of DTA that can be recognized. Where no tax is imposed on the transfer gain then no DTA can be recognised for GloBE purposes. Where tax losses at the level of the disposing CE mitigate the tax actually paid on the gain, a DTA may still be recognizable at the level of the acquiring CE.

In the alternative case where intra-group transfer is booked at fair value at the level of the acquiring CE, the same considerations are in play. Regard is had to the tax applied to the gain at the level of the disposing CE.  Treatment at the level of the acquiring CE is ‘equalized’ with the treatment that would have applied to a transfer booked at cost.  The GloBE carrying value at acquiring CE is reduced to cost and (assuming tax is paid on the disposal gain) a DTA is recognised at the level of the acquiring CE.

25

Applicability of Article 9.1.3 to transactions similar to asset transfers

9.1.3

The AG details a series of transaction types, similar to asset transfers, which are to be covered by the Article 9.1.3 provisions. In addition to asset sales this covers certain capital leases, licenses and prepayments of royalties/rents, transfers of assets through sale of a controlling interest, and total return swaps transferring an underlying asset to the accounts of an acquiree. It also covers entity tax residence migration leading to tax or accounting basis step up, and asset value adjustments arising from fair value accounting. The latter two transactions are regarded as deemed transfers happening ‘within the same entity’.

26

QDMTT

10.1

As noted above, the AG identifies which elements of a QDMTT, as designed by a jurisdiction, would need to be identical between QDMTT and the GloBE rules, and which elements are allowed to vary.