OECD’s Model Rules: From the drawing board to reality

The rules would reduce the pressure on the Indian government to offer tax incentives in order to attract foreign investment

MNEs should also monitor activity in relevant jurisdictions related to the implementation of new rules through changes in domestic tax rules and bilateral/ multilateral agreements.
MNEs should also monitor activity in relevant jurisdictions related to the implementation of new rules through changes in domestic tax rules and bilateral/ multilateral agreements.

By Sudhir Kapadia

In what could veritably be ground-breaking for the Base Erosion and Profit Shifting (BEPS) 2.0 project, the Organisation for Economic Co-operation and Development (OECD) released the Model Global Anti-Base Erosion (GloBE) Rules on 20 December 2021. The Model Rules come close on the heels of the October 2021 announcement of the political consensus between 137 countries (including India), on ensuring that the corporate profits of multinational enterprises (MNEs) are subject to at least 15% taxation, irrespective of where they are headquartered. What was only a broad framework so far, is now translated into the specific, implementable Model Rules that are ready to be integrated into the domestic laws of the countries.

The Model Rules signify a momentous step towards the implementation of a new tax regime that seeks to radically restructure the international tax architecture by granting countries the right to tax back profits of an MNE headquartered in another jurisdiction that offers the benefits of a no-/low-tax regime. The OECD expects the new regime to generate additional global tax revenues in the range of $150 billion, by way of imposition of additional taxes as well as resulting behavioural changes among MNEs because of reduced incentives to indulge in profit-shifting activities by taking advantage of low tax rates. Despite the high annual revenue threshold of 750 million euros, the OECD expects to cover 90% of the global corporate income tax base, within the scope of the framework.

What does it mean for India and businesses in India? The Model GloBE Rules are a positive development for India. The rules would reduce the pressure on the Indian government to offer tax incentives in order to attract foreign investment. At the same time, a 15% minimum tax may not adversely affect Indian interests since Indian profits are generally subjected to a tax rate that is higher than 15%. It also ensures that the competitiveness of India’s lower corporate tax rate of 17% for new manufacturing companies is protected.

The high annual-revenue threshold of 750 million euros indicates a limited in-scoping of Indian MNE groups. While there is an option granted to signatory-countries to apply the GloBE Rules to MNEs falling below the revenue threshold, India should carefully consider the impact of this on the competitiveness of small Indian MNEs as well as the administrative efforts that would be required, before exercising this option.

The Model Rules provide sufficient details for MNE groups to undertake an impact assessment and prepare for the introduction of a minimum tax framework. Given the complexity revealed by the Model Rules, significant investment and efforts will be needed to be compliance-ready.

It is also pertinent to note that the GloBE tax liability is based on an “effective tax rate” which is a complex computation, divergent from the local tax regulations. Against this backdrop, having a headline corporate tax rate of 15% or more is not sufficient and multinationals doing business in India will be required to compute their GloBE tax base and ETR calculations based on Model Rules to ascertain exact impact.

Further, the computation of the minimum tax liability is based on financial accounting rather than tax accounting and it requires multiple data points that are not used for any other purpose. This will also be reflected in the onerous reporting requirements entailed by the Model Rules. Thus, MNEs will need to maintain huge amounts of data—including historical and non-tax data—making the use of technology imperative.

MNEs should also monitor activity in relevant jurisdictions related to the implementation of new rules through changes in domestic tax rules and bilateral/ multilateral agreements.

What lies ahead? While the release of the Model Rules is a significant milestone in the BEPS 2.0 project, a lot of work still lies ahead for implementation by 2023. Stakeholders eagerly await the release of the commentary in early 2022, as also the development of the implementation framework that will follow. This is also an opportunity for the stakeholders to engage with the Indian tax administration, to discuss issues relevant to the predictability, simplicity and administrability of the new regime.

Against the backdrop described here, while the introduction of the minimum tax proposal in Indian tax legislation by a proactive Budget FY23 cannot be wholly ruled out, considering the interlocking nature of the rules and awaited explanatory framework thereon, India would do well to not hurry to amend domestic law without fully examining its impact on its tax policy and business environment.

Contrastingly, India Inc. as well as the Indian government may have their sights set on the expected model provisions for the Subject-To-Tax Rules (STTR), which may have greater significance for developing countries like India. The STTR will allow countries to retain their right to tax certain payments (such as interest and royalties) made to related parties abroad which suffer low tax due to the availability of treaty benefits. The model provisions for STTR and the OECD public consultation on the same are expected in early 2022.

Companies need to stay entrenched in the process to understand the impact that the revised tax architecture will have on their business, organisational hierarchies and supply chains, and, if need be, undertake mitigation measures so as to not be taken by surprise.

Co-authored with Aastha Jain, tax director, EY

The author is EY India tax leader Views are personal

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