INSIGHT: GloBE Pillar Two and the Potential Impact on MENA Transfer Pricing

Jan. 7, 2020, 8:00 AM

On November 8, 2019, the Organization for Economic Co-operation and Development (OECD) released for public consultation the initial proposal for Global Anti-Base Erosion (GloBE) under Pillar Two (to address the tax challenges of digitalization of the economy).

By way of reminder, the GloBE Pillar One proposals address the broader challenges of the digitalized economy and focus on the allocation of taxing rights. GloBE Pillar One debates where tax should be paid and in what amount—especially where digital companies may not have a significant physical presence in a jurisdiction in which they operate. The GloBE Pillar One proposals are converging toward a system of taxation that would allocate more taxing rights to the place where the customer is located.

The timeline agreed to by all relevant parties (G-20/OECD/OECD IF) is to develop a consensus-based solution by the end of 2020.


One hundred and thirty five jurisdictions (including Bahrain, Kingdom of Saudi Arabia (KSA), Jordan, Oman, Qatar, United Arab Emirates (UAE)) have now signed the Base Erosion and Profit Shifting (BEPS) Inclusive Framework (IF); whilst this is a commitment to cooperate with the OECD 36 member states on key areas, the IF minimum standards do not include “Action 1: Tax Challenges Arising from the Digital Economy.” By way of reminder, the IF four minimum standards are as follows:

  • Action 5—Countering harmful tax practices
  • Action 6—Countering tax treaty abuse
  • Action 13—Introducing country-by-country reporting
  • Action 14—Commitment to mutual agreement procedures

Despite no commitment under Action 1, the GloBE Pillar Two proposals fall under Action 5 and as such have relevance for the IF jurisdictions.

Note that the GloBE proposals confirm (as stated in the BEPS Action 1 Report) that it would be difficult, if not impossible, to ring-fence the digital economy from the rest of the economy for tax purposes.

Therefore, the scope of the GloBE Pillar Two proposal is not limited to digitalized businesses. By focusing on the remaining BEPS challenges, it proposes a systematic solution designed to ensure that all internationally operating businesses pay a minimum level of tax.

GloBE Pillar Two Proposals

The current proposals for the digital economy include a minimum rate of tax on the income of multinational businesses among the following four elements:

1. An income inclusion rule that 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.

2. An undertaxed payments rule that would operate by way of a denial of a deduction or imposition of 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.

3. A switch-over rule to be introduced into tax treaties that 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.

4. A subject to tax rule that 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.

A Minimum Level of Corporate Income Tax?

The OECD GloBE Pillar Two proposals note that a minimum tax rate “does not change the fact that countries or jurisdictions remain free to set their own tax rates or not to have a corporate income tax system at all.” However, these rules would be implemented by way of changes to domestic law in other locations and tax treaties and would incorporate a coordination or ordering rule to avoid the risk of double taxation that might otherwise arise where more than one jurisdiction sought to apply these rules to the same structure or arrangement.

There is the argument that the establishment of a minimum level of corporate income tax in no or only nominal tax jurisdictions (Noons) would raise tax collections for the jurisdiction. If MENA jurisdictions do not introduce a minimum level of taxation, these tax collections would flow to other Jurisdictions.

What Will the Minimum Level of Corporate Income Tax be?

Based on experience with other tax jurisdictions, a corporate income tax rate below 10% might be considered “low” (but not nominal which may be the case for a corporate income tax rate below 5%). Deloitte prepare a comparison of rates each year that can be accessed here. The results demonstrate rates that range from 0% to 35%. It is likely that the next iteration of the GloBE Pillar Two proposals will include an indication of what the minimum tax rate should be.

Carve Outs

The GloBE Pillar Two proposals look in some detail at local versus global financial accounts and the mechanism that may render such an approach to taxation feasible. In addition, it is specified that there should be a carve out in certain situations. The author would envisage these situations to be as follows:

  • de-minimis—below a certain threshold;
  • commercial substance—if it can be demonstrated that transactions are not artificial and have strong commercial (non-fiscal) benefits in addition to any incidental fiscal benefits;
  • contradictions with other areas of taxation law (e.g. transfer pricing);
  • (predominantly) non-digital businesses.

Impact on Traditional Transfer Pricing

Tax administrations will continue to consider the level of economic substance in their respective territory and whether the amount of tax payable is commensurate with that level of substance in line with transfer pricing regulations. This is the very essence of transfer pricing and Noons (such as the UAE or Bahrain) in which you can demonstrate substance will be more supportable than those in which you cannot.

A minimum rate of tax may change the financial numbers in the accounts, cash tax position and tax returns but it need not render the transfer pricing policy inert. That said, there is time to shape the debate and many tax administrations (including the IRS) have called for the GloBE Pillar Two proposals to respect and retain the integrity of the arm’s length principle.

Shiv Mahalingham is Head of Transfer Pricing, Deloitte MENA.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

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