Article 2.8 of the Administrative Guidance provides for a new concept of ‘Substitute Loss Carry Forwards’.
This arises due to the differing tax treatment of foreign source income amongst jurisdictions.
If a jurisdiction permits tax on foreign source income to be offset with foreign tax credits (FTCs) in a year with a domestic loss, a loss will generally be generated that can be carried-forward.
If the jurisdiction required the domestic loss to first offset foreign source income before FTCs are used, no loss or a reduced loss will be generated compared to the above.
In this case, jurisdictions generally permit future domestic source income to be recharacterized as foreign source income, up to the amount of the prior year domestic source loss, to allow the use of FTCs given the loss was utilized against the foreign source income.
However, the GloBE rules do not include deferred tax arising from foreign tax credits in the calculation of covered taxes.
Therefore, when FTC carry-forwards are used to offset tax on domestic source income in future years, Top-up Tax could arise even though economically it is the same as a scenario where a loss carry-forward has been provided for.
As such, the Administrative Guidance provides for a Substitute Loss Carry Forward. The deferred tax expense attributable to the Substitute Loss Carry-forward DTA is included in the entity’s Total Deferred Tax Adjustment Amount in the Fiscal Year that it arises and in the Fiscal Year it reverses.
Importantly, Article 2.10 of the Administrative Guidance provides more information on the treatment of the US Global Intangible Low-Taxed Income (GILTI) regime.
This is to be treated as a blended CFC Regime for GloBE purposes.
Under the GloBE Rules CFC taxes are allocated to the foreign CFC
(subject to the push down restriction), however, determining the allocation can be tricky when there is a blended CFC regime.
A blended CFC regime arises when the tax charge under the CFC regime is based on a blend of income or of multiple CFCs.
For fiscal years that begin on or before 31 December 2025 and not ending after 30 June 2027, the Administrative Guidance includes a simplified formula to allocate CFC taxes in blended CFC regimes such as GILTI.
The QDMTT guidance provides more detail on when a domestic minimum tax will be treated as a QDMTT
for GloBE purposes.
It notes, for instance, that a QDMTT is not required to have a de minimis exclusion.
However, if a de minimis exclusion
is included it must be based on Average Revenue and Average Income or Loss, and the threshold must be equal to or lower than the ones in Article 5.5 of the GloBE rules. Similarly a QDMTT does not need to include a GloBE Loss Election.
Excluded Dividends & Mismatches
Article 2.3 of the Administrative Guidance also includes an anti-avoidance rules for excluded dividends. In particular for hybrid-mismatch situations, where a financial instrument (such as redeemable preference shares) may be treated as debt in one jurisdiction but equity in another.
Given excluded dividends are not included in GloBE income under the GloBE Rules, this would allow a payor jurisdiction that treated the instrument as debt a potential tax deduction for the interest, whilst the treatment as a dividend in the recipient jurisdiction would be an excluded dividend.
As such, the Model Commentary will be amended to make it clear that MNE Groups subject to the same Acceptable Financial Accounting Standard must consistently apply the relevant standard uniformly to all instruments to prevent asymmetrical outcomes.
The GloBE Rules and Commentary do not include an exemption for debt releases. For financial accounting purposes the release of debt is likely to be treated as income (ie Dr Creditors, Cr P&L). However, in many jurisdictions, a domestic tax exemption is provided. This could therefore push the GloBE ETR down leading to top-up tax.
Article 2.4 of the Administrative Guidance provides that certain debt releases under various corporate rescue situations are excluded from GloBE Income.
When calculating covered taxes for the GloBE ETR calculation
, taxes on dividends and other distributions are allocated to the paying entity (unlike for instance interest and royalties which are allocated to the recipient). Article 2.6 of the Administrative Guidance confirms that this also includes deemed distributions.
Transitional Deferred Tax Rules
The general rule under Article 9.1.1 of the OECD Model Rules
, is that in a transition year, deferred tax assets and liabilities of the entity are recognised at the lower of:
- the domestic tax rate used in the accounts; and
- the 15% global minimum rate.
Deferred tax assets and liabilities are based on the amounts in the financial statements.
However, as noted above when calculating the standard deferred tax adjustment amount, deferred tax relating to tax credits is excluded.
The administrative guidance confirms that this exclusion does not apply to the transitional rule for deferred tax, so deferred tax relating to tax credits is included.
However, as recasting deferred tax assets relating to tax credits can be complex, the guidance provides for a a simplified approach where the domestic tax rate is equal to or higher than 15%.
In addition, given the different treatment under the GloBE rules for qualifying refundable tax credits, and other tax credits, splitting them out for the calculation of the transitional deferred tax rules could be complex. It therefore, provides that QRTCs and non-QRTCs are treated in the same way for the transitional rule for tax credit carry forwards (as income, not a reduction to the current tax expense).
Transitional Rule for Asset Transfers
The Pillar Two treatment of intra-group asset transfers generally follows the financial accounting treatment.
This generally values the transfer of assets at fair value.
Therefore any gain or loss recognised for accounting purposes would also flow through to the GloBE income calculation.
However, the Article 9.1.3 of the OECD Model Rules provides that if an asset is transferred between group entities after November 30, 2021 and before the first year the GloBE rules apply to the group, the asset is recorded at its historic cost providing the entities would have been subject to the Pillar Two GloBE rules had they been in-scope.
The reason for this is to prevent an uplift in the base cost of assets (with potentially additional tax relief and reduced gains on a future disposal) when any original gain on the intra-group transfer was not taken into account for Pillar Two GloBE purposes as the group was not subject to the rules.
This would also mean that any deferred tax assets or liabilities would also need to be recast to the historic value (eg if tax relief for the assets was given over a shorter period than for financial accounting purposes).
Article 4.2 of the Administrative Guidance provides that all transactions and corporate restructurings that are accounted for similar to an asset transfer (eg where the MNE Group creates or increases the carrying value of an asset), regardless of their form are to be classed as an “transfer of asset” for the purposes of Article 9.1.3.
We will review the guidance in detail and incorporate it into our Pillar Two Navigator
over the next few days.