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BEPS 2.0 – Part 3: Pillar Two

Following on from the second part in this series, which looked at the proposal under Pillar One, the third and penultimate part in this series will examine the proposal under Pillar Two. 

Pillar Two focuses on the remaining BEPS issues and seeks to develop rules that would provide jurisdictions with a right to “tax back” where other jurisdictions have not exercised their primary taxing rights or where certain payments are otherwise subject to low levels of effective taxation. In this way, Pillar Two would impose a minimum tax on foreign profits derived by multinational groups, which is expected to reduce the incentive for taxpayers to engage in profit shifting and establish a floor for tax competition among jurisdictions. As such, Pillar Two is known as the “Global Anti-Base Erosion” (GloBE) proposal.

There are four components of the GloBE proposal: (i) an income inclusion rule; (ii) an undertaxed payments rule; (iii) a switch-over rule; and (iv) a subject to tax rule. The income inclusion rule would tax the income of a foreign branch or a controlled entity if that income was subject to tax at an effective rate that is below a minimum rate, while the undertaxed payments rule would operate by way of denying a deduction or imposing source-based taxation (including withholding tax) for a payment to a related party if that payment was not subject to tax at or above a minimum rate. The switch-over rule is proposed to be introduced into tax treaties and would permit a residence jurisdiction to switch from an exemption to a credit method where the profits attributable to a permanent establishment (PE) or derived from immovable property (which is not part of a PE) are subject to an effective rate below the minimum rate. Finally, the subject to tax rule would complement the undertaxed payment rule by subjecting a payment to withholding or other taxes at source and adjusting eligibility for treaty benefits on certain items of income where the payment is not subject to tax at a minimum rate.

The GloBE Proposals are expected to be implemented by way of changes to domestic law and tax treaties. However, there are a number of challenges outstanding, including that the minimum tax rate has not yet been determined. For the GloBE proposals to work effectively, a co-ordination or ordering rule would need to be incorporated to avoid the risk of double taxation where more than one jurisdiction sought to apply these rules to the same structure or arrangement. Other key design issues that need to be addressed include: (i) determining the appropriate tax base (including the use of financial accounts as a possible simplification to determining the tax base); (ii) blending of low and high-tax income (i.e., the extent to which a multinational enterprise can combine high-tax and low-tax income from different sources taking into account the relevant taxes on such income in determining the effective (blended) tax rate on such income); and (iii) whether any carve-outs and thresholds are needed (and their design).

The details of the proposals under both Pillar One and Pillar Two are still being considered and negotiated by members of the Inclusive Framework, and thus are still described in high-level terms. The OECD had been expecting to reach agreement on the key components by mid-2020 with a consensus solution to be reached by the end of 2020. However, owing to the Covid-19 pandemic, the Inclusive Framework is not expected to consider revised reports on the “blueprints” for Pillar One and Pillar Two until October 2020. Even then, a number of key issues are still expected to be outstanding in the design of both the Pillar One and Pillar Two proposals. Once a broad consensus solution has been reached, other aspects necessary to support the technical design and implementation of the consensus-based solution (such as identifying changes to tax treaties required to remove barriers to the implementation of the new taxing right) are expected to be finalized.

While there is still a considerable amount of work to be undertaken before there is an international consensus on specific measures to be implemented, individual jurisdictions are already starting to take unilateral action to address the taxation challenges arising from the digital economy, and digitalization more generally. The fourth and final piece in this series will look at the responses and reactions of individual jurisdictions. 

Key Contacts

Linda Z. Swartz
T. +1 212 504 6062


Adam Blakemore
T. +44 (0) 20 7170 8697

Jon Brose
T. +1 212 504 6376

Andrew Carlon
T. +1 212 504 6378

Mark P. Howe
T. +1 202 862 2236

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