How Pillar 2 tax rules will affect multinational enterprise groups?

1. General Provisions

Taxation changed globally this year: many territories ratified new Pillar 2 rules. Purpose of the changes is to eliminate the advantages of certain jurisdictions with preferential taxation in competition for large taxpayers.

Who is within the scope of the rules?

Multinational enterprise (MNE) groups with consolidated revenue from €750M per year (regardless of the availability of consolidated accounts) in at least two of the previous four annual periods.

What is the taxation mechanism?

The profit of a MNE group will be taxed additionally in each jurisdiction of its presence at the minimum rate of 15%. If the effective tax rate on profits (ETR) is lower than 15%, the difference is paid at the level of the ultimate parent entity (UPE).

Taxation methods

1. «Income Inclusion Rule (IIR)» assumes calculation of tax at the minimum rate on the entire MNE's income.

The profit at the level of the parent company's jurisdiction will be taxed additionally in relation to MNE group participants in countries with "insufficient" tax burden.

If Pillar 2 is not introduced in the UPE's registration jurisdiction, the obligations may be transferred to underlying sub-holding companies that have shares in the capital of other MNE group participants.

The rate of such additional tax is determined as the difference between the minimum rate (15%) and the ETR.

2. «Undertaxed Payments Rule (UTPR)».

An approach to taxation up to the statutory rate (15%) at the level of other companies, if the IIR is not fully applied (i.e. if Pillar 2 has not been introduced in the UPE’s country of registration).

Key points:

• UTPR is an auxiliary rule in relation to the IIR: it will be used if the IIR doesn’t apply to the UPE of the MNE group.
• if the ETR of the participants at the jurisdictional level is less than 15%, other MNEs must pay additional tax for them. The algorithm for withholding additional tax under UTPR must be determined by the jurisdiction itself.

3. «Qualified Domestic Minimum Top-up Tax (QDMTT)» – a local tax which is to be paid additionally.

The country of registration of the MNE group participant introduces an identical approach to taxation of profits within the statutory tax rate (15%) in order to leave taxes in the jurisdiction.

STTR (subject-to-tax rule) – possibility of additional taxation at source of up to 9% on a number of intra-group transfers if the recipient’s income is taxed at a rate of less than 9%.

Mechanisms for assessment of the ETR and top-up tax

1. Jurisdictional ETR =

Sum of jurisdictional taxes taken into account / Net GloBE Income of the jurisdiction.

2. If ETR < 15%, additional tax is imposed (Jurisdictional Top up Tax):

Excess Profit x Top up Tax Percentage – QDMTT, where:

1. Excess Profit = Net GloBE Income of the jurisdiction – SBIE (Substance-based income exclusion)
2. Top up Tax Percentage = 15% – ETR
3. QDMTT – qualified domestic top up tax

2. Timing of the Pillar 2 introduction

Fig. 1. Timeframes for entry into force of Pillar 2 legislation in a number of jurisdictions

1.  Isle of Man, Guernsey and Jersey are planning to implement IIR from 01.01.25
2. The Law on the implementation of Pillar 2 was issued in the UAE in 2023, it amends the corporate tax legislation. The expected introduction date is 01.01.25 (IIR rules).
3. Cyprus: a bill was considered regarding the possibility of applying Pillar 2 to tax periods starting from 01.01.24
4. Russian Federation: according to the main directions of tax policy for 2024-2026, the introduction of QDMTT is possible, but specific plans are not disclosed in official sources.

There is a risk that if Russia introduces Pillar 2, it may not be recognized as a country that has implemented such rules within the framework of the OECD monitoring of the implementation of model legislation.

This will affect the use of "safe harbours", the exchange of information, the qualification of jurisdiction for the purposes of IIR / UTPR. A negative effect in the form of an additional tax under Pillar 2 may occur for Russian companies with a foreign presence if they use the losses or benefits in Russia that reduce the ETR to a level below 15%.

Let's look at some examples.

Fig. 2. The example of a MNE group with UPE on the Isle of Man and controlled companies in Croatia and Russia

The process of estimation of the top-up tax:

1. Determine whether Pillar 2 has been introduced in the jurisdiction of UPE registration. IIR is introduced in the Isle of Man from 01.01.25 only.
2. Go down the structure – the subholding company CroCo1 is registered in Croatia, where IIR was introduced from 01.01.24. Regarding RusCo1 (Russia) – Pillar 2 has not yet been introduced.
3. Conclusions:

• for 2024: CroCo1 must evaluate and pay top-up tax in Croatia, since the ETR of the subsidiary < 15% (for example, a Russian company uses losses from previous years or this is an IT company with a preferential profit tax rate).
• for 2025: RusCo1 top-up tax will be calculated and paid at the UPE level (in the Isle of Man budget).

Fig. 3. Example of a MNE group with UPE in the Russian Federation

From Fig. 3:

1. UPE is located in Russia – there is uncertainty here regarding the implementation of Pillar 2 in 2024 and 2025.
2. IIR, UTPR, QDMTT are introduced in Hong Kong from 2025.
3. IIR, UTPR, QDMTT may be introduced in the UAE from 2025 (presumably).
4. IIR and UTPR-rules come into force in Cyprus from 2024 and 2025, respectively (presumably).
5. Conclusions:

• for 2024 and 2025: the top-up tax at the UPE level (Russia) is not estimated
• for 2024 and 2025:  CypCo1 pays the additional tax in Cyprus (for RusCo1) because ETR of the “subsidiary” < 15%
• for 2025: CypCo1 pays the top-up tax in Cyprus for RusCo2 (Russia) because:
  • ETR of “RusCo2” < 15%
  • UTPR is introduced in Cyprus from 01.01.25, i.e. CypCo1 will be taxed for RusCo2
• for 2024: UAECo3 does not pay additional tax for HKCo3, despite the fact that the ETR of the “subsidiary” = 11% because:

• Pillar 2 is introduced in the UAE and Hong Kong only from 01.01.25 (presumably)
• UTPR rules do not apply in 2024 in the UAE, Hong Kong or Cyprus.

• for 2025: HKCo3 pays additional tax in the Hong Kong budget at the rate of 4% of jurisdictional profit (15% –11%) if certain conditions are met (QDMTT is introduced in Hong Kong from 01.01.25). In this case UAECo3 does not pay the top-up tax in the UAE budget for HKCo3.

3. Disclosure of information in the IFRS-consolidated financial statements

The changes affected the standard IAS 12 "Income Taxes" in terms of assessing the effect of the Pillar 2 introduction.

1. If Pillar 2 legislation has not yet come into force.

If a reliable estimate can be obtained, the following information should be disclosed:

• the estimated share of profit which is the subject to the top-up tax
• a qualitative assessment of the impact of the amendments
• the level of ETR.

If disclosure is not possible, the company should describe the steps taken to calculate the effect.

2. If Pillar 2 legislation has entered into force.

Disclosure of information on current and deferred taxes arising from the introduction of Pillar 2 is required. Such an estimate should be made separately from income tax expenses in accordance with the current legislation.

An option (exception) is allowed when the impact of Pillar 2 in terms of deferred taxes is not disclosed.

For example, if UPE is located on the Isle of Man, where Pillar 2 legislation is adopted in 2024 but comes into effect on 01.01.25, the group's consolidated financial statements should disclose:

1. for 2024:

• UPE inclusion in the scope of Pillar 2
• application of the exception in terms of calculating deferred taxes
• qualitative and quantitative assessment of the impact or a list of the implemented measures by the UPE to calculate the effect of the new rules.

2. for 2025: current income tax under Pillar 2 and application of the exception in terms of not having to calculate deferred taxes.

4. Pillar 2 reporting

1. Contents of the Globe information return

• ETR and additional tax assessment, including applicability of IRR/UTPR/QDMTT rules
• details regarding the entities in the group – taxpayers and filers
• whether "safe harbours" or other reliefs are used
• accounting standards applied
• MNE group structure

2. Entities authorized to submit Globe information return

It’s UPE or each designated participant on behalf of the group, if the jurisdiction of its registration has rules regarding the automatic information exchange with the tax authorities in the countries of MNE group presence.

3. Deadlines for submitting a Globe information return

For the 1-st tax period – 18 months after the reporting period.

For the 2-nd tax period – 15 months.

For example, Pillar 2 is introduced on the Isle of Man from 01.01.25, then the submitting deadlines are:

• for 2025 – 30.06.27
• for 2026 – 31.03.28.

4. Penalties for failure to submit Globe information return

They vary depending on the jurisdiction: in Cyprus – up to €10K, in Italy – up to €100K, in Netherlands – up to €900K.

5. Nuances in assessing the Pillar 2 tax

1. Clarification of the MNE group participants

The group structure determines list of entities paying the tax and filing the declaration.

2. Determination of the possibilities for using "safe harbours" to minimize the Pillar 2 negative effect.
3. Possibilities of using a qualified domestic top-up tax (QDMTT)

Certain countries can introduce their own QDMTT to prevent the tax base shifting outside their jurisdiction. This component will be taken into account when calculating the tax to be paid in addition relating to the rest part of MNE group.

Fig. 4. An example of QDMTT mechanism in 2024.

From Fig. 4:

• Pillar 2 was introduced in the UPE jurisdiction (Croatia) on 01.01.24
• ComCo 1 (UK) incurs a surcharge of $5 (ETR < 15%) in UK, since QDMTT is introduced in the jurisdiction in 2024.
• ComCo 2 (from Hong Kong) incurs a surcharge of $5 (ETR < 15%) levied at the UPE level, since QDMTT in Hong Kong will only be introduced on 01.01.25, but IIR-rule comes into force in Croatia from 01.01.24.

4. Removal from the Pillar 2 tax base the “normal” profit from country economic presence (Substance-based Income Exclusion or SBIE)

Excess Profit = Net Globe Income of the jurisdiction – SAL x 10% – FA x 8%, where:

SAL – personnel costs accepted for calculation, for example:

• payments under civil-law contracts, if contractors participate in the company’s core business processes
• fees in favor of social funds
• salaries, employees’ bonuses.

FA – eligible tangible assets, such as:

• tenants' rights to use non-current assets
• fixed assets and licenses.

The SAL and FA rate is reduced to 5% over a 10-year transition period.