OECD’s Pillar Two model looks to reduce opportunities to use transfer pricing

Tax authorities and the media have for some years focussed on whether multi-national enterprises (MNEs) are paying enough taxes, and the perceived opportunities they have to shift profits and avoid tax. In large part this reflects concerns that tax systems have not kept pace with the increasing global digitisation of commerce.

Work is continuing in the Office for Economic Co-Operation and Development (OECD) on finalising the Pillar One framework for reallocating taxing rights. Pillar One involves a partial reallocation of taxing rights over the profits of the largest and most profitable MNEs to the jurisdictions where consumers are located. Effectively, where they pay tax.

In October 2021, the OECD published the latest chapter in the saga; Pillar Two, was agreed by over 130 countries and is looking to introduce a minimum 15% tax rate in each country in which MNEs operate.

The intention behind Pillar Two is to reduce the incentives for MNEs to use transfer pricing or other techniques to shift profits to low or no tax jurisdictions, and to place a floor on tax competition between jurisdictions. As well as a minimum tax rate, there are proposals to allow jurisdictions to impose a top up withholding tax on certain types of outbound payments that are made between related parties and are taxed at a nominal rate of less than 9%.

What does this mean for UK businesses?

The new approach will be implemented on a country by country basis. The UK Government in January 2022, issued a consultation document on how the new rules should work in the UK, and is asking for feedback from taxpayers and interested parties by 4 April 2022.

The UK consultation document explores and seeks feedback on how the new rules will be implemented in the UK. For example, which taxpayers will the rules apply to, any necessary transitional rules, calculating effective tax rates and any top up tax, how taxpayers will make returns and pay tax due etc.

The details are complex, but it is proposed that a business will only come within the scope of the new minimum tax framework where it operates in more than one jurisdiction and has consolidated revenues greater than €750 million. At least some of the measure are intended to apply from 1 April 2023.

The OECD approach allows countries to apply the new rules to smaller MNEs. The UK does not propose to do this, but is instead considering a UK domestic minimum top-up tax for UK-headquartered MNEs with over €750m of group revenue.

The detailed rules are likely to be lengthy, detailed and complex (the consultation document is some 70 pages). The new rules are likely to result in substantial additional compliance costs as well as additional tax liabilities for those affected.

Next steps

We would encourage affected companies to consider as soon as possible how the rules might affect them. We are happy to discuss the proposals, and advise on the best avenue for responding to the consultation. Please contact Caroline Fleet, or your usual Crowe contact.