Global Minimum Tax

What is in the OECD/G20 tax deal?

The OECD/G20 Inclusive Framework Tax Deal proposes two main elements – Pillar One,
which calls for the redistribution of profits generated by the largest companies to the domicile
markets where they actually make their sales instead of simply where they are headquartered
and Pillar Two, which establishes a global minimum effective tax rate of 15 percent
determined on a country-by-country basis.  

Elements of this deal were previously proposed at the G7 meeting in June. However, the
OECD tax plan has added special rules for some sectors and companies.

Pillar One

This has three components – new taxing rights for market jurisdictions, that is where
customers are located, to access a share of the residual profit of a multinational enterprise
(MNE); the calculation of a fixed return for certain baseline and marketing and distribution
activities in jurisdictions where the MNE holds a physical presence; and establishing dispute
prevention and resolution mechanisms to achieve ‘tax certainty’.

The scope of Pillar One will apply to the largest and most profitable multinationals, and not
just digital businesses. Its scope will not cover extractive industries and regulated financial
services.

Pillar Two

Pillar Two (or the Global Anti-Base Erosion / GloBE proposal) consists of the following.

Two domestic rules:

1. An income inclusion rule (IIR) that will impose tax on the income of a foreign-
controlled entity (or foreign branch) if that income benefited from an effective tax rate
below a certain minimum rate.
 2. An undertaxed payments rule (UTPR) that will either deny a deduction or potentially
impose a withholding tax (WHT) on base eroding payments – unless that payment is
taxed at or above a specified minimum rate in the recipient’s jurisdiction.

A treaty-based rule:

The subject to tax rule (STTR) will ensure that treaty benefits for certain related party
payments, such as interest and royalty payments, are granted to MNEs only if an item of
income is taxed at a minimum rate in the recipient jurisdiction.

Pillar Two exclusions are being considered for government entities, international
organizations, non-profit organizations, etc. Outstanding issues under Pillar Two negotiations
include reconciling the implementation of Global Anti-Base Erosion measures and the Global
Intangible Low-Taxed Income (GILTI) regime – the latter subjects US-controlled foreign
corporations to special treatment under the US tax code.

What is India’s position on the OECD/G20 tax deal?

India joined OECD members in endorsing the global tax reform – in principle – on July 1 and
has committed to working towards the deal’s final approval.

As per a statement released by the Ministry of Finance on July 2: “Some significant issues
including share of profit allocation and scope of subject to tax rules, remain open and need to
be addressed. Further, the technical details of the proposal will be worked out in the coming
months and a consensus agreement is expected by October [2021]. The principles underlying
the solution vindicates India’s stand for a greater share of profits for the markets,
consideration of demand side factors in profit allocation, the need to seriously address the
issue of cross border profit shifting and need for subject to tax rule to stop treaty shopping.”

Impact on India
With the advent of these measures, the tax arbitrage offered by low-tax jurisdictions, which
has conventionally been paramount in deciding where businesses should set up their base
while exploring investment opportunities outside their home countries, is likely to be bridged.
From an Indian perspective, Indian businesses which have typically routed their foreign
investments through destinations offering lower income taxes, would need to revisit their
structures to evaluate the impact of these proposed provisions. For foreign businesses
operating in India, investments into India are not likely to be affected adversely since the
lowest corporate tax rate India levies is 15% (for newly set up manufacturing companies),
which is at par with the current recommendation on GMT. Viewed from a different
perspective, India is likely to attract further investments, specifically in the manufacturing
sector with its policy of reducing corporate taxes and other parameters, including the
corporate tax rates being comparable across the globe.
In the longer run, a consensus of all the stakeholders is essential to provide certainty and a
healthy environment for businesses to operate, which in turn shall encourage businesses to
pay their fair share of taxes.