GILTI Doesn’t Fit in the Global Tax Plan. Two Moves Can Fix That

The global minimum tax plan known as Pillar Two is now the law in many countries. As tax professionals around the world put together the jigsaw puzzle of effective tax rate calculations for 2024, they’re facing a 3D piece that can’t be jammed into the picture.

That piece is global intangible low-taxed income, or GILTI, a category of income that the IRS uses to calculate a multinational’s taxable foreign earnings for US tax purposes. It isn’t currently a qualified Income Inclusion Rule under Pillar Two.

The GILTI tax system mirrors controlled foreign corporation tax systems in many parts of the world with one key difference: It aggregates income, losses, and taxes for all jurisdictions subject to GILTI to determine if a US shareholder must pay tax on foreign income and receive a foreign tax credit on that income.

This blending approach complicates the calculation of Pillar Two minimum tax, as it’s unclear how much tax from the US entity’s controlled foreign corporation taxing systems is attributable to a particular jurisdiction.

Global base erosion rules have adopted simplified calculations that allocate the taxes back out to the jurisdictions based on income contributed to the calculation. But does that reflect the reality of the taxes paid? Most likely not.

Consider a case where you have two jurisdictions, both with $100 income taxable under the GILTI system. If Jurisdiction A pays 20% tax and Jurisdiction B pays 5% tax locally, allocating the taxes back out to the jurisdictions based on income for testing under the minimum tax rules distorts the reality of the high-taxed and low-taxed rates contributing to the calculation.

So, what can be done to flatten this piece and bring GILTI in line with the rest of the Pillar Two puzzle? The answer is relatively simple, but the finer points are proving difficult to work out.

First, the US must join the table and start working on the same puzzle. Lack of action isn’t an option, and US businesses will be harmed if it refuses to participate in Pillar Two development.

The Organization for Economic and Community Development has been working around the US by providing temporary rules for allocating the taxes among jurisdictions. But the speed at which new guidance is being released calls into question how long these temporary fixes will hold up.

Potential Paths Forward

Two moves could help bring US rules in line with Pillar Two and give US companies more clarity and less complexity when applying the rules to their situations.

The first would be to modify the corporate alternative minimum tax, or CAMT, to operate more like a qualified domestic minimum top-up tax. This would mean broadening the base of who is captured under the CAMT rules so that it applies to US entities that would likely be included in the Pillar Two rules as well.

Currently, the CAMT threshold is based on $1 billion financial statement income worldwide and $100 million of US-sourced financial statement income. This captures a much smaller group of taxpayers, thereby leaving out many companies that will be subject to Pillar Two’s 750 million euro ($815 million) revenue threshold.

By bringing the threshold in line with Pillar Two rules and making other adjustments necessary to make CAMT a top-up tax, the US can ensure it’s getting its first bite of the apple for taxing rights.

Second, the US could move to a country-by-country taxing/foreign tax crediting system for GILTI and Subpart F inclusions. Any solution to move to such a model will have winners and losers, but that shouldn’t continue to be a barrier to achieving what has been a goal of the Treasury Department for years.

It’s not just the blending of income and taxes that makes GILTI unique, but also that losses and credits don’t carry out of the current year in which they’re generated. In some years, it can seem like a boon to have losses of one entity or country offset income in another and effectively not have a GILTI inclusion amount. The flip side is that eventually, you expect that loss-making entity to have profits.

In a year where a previously loss-generating entity has profits, that entity will have offset of income locally and likely little-to-no taxes paid, which means no foreign tax credit from a US perspective and full taxability under the GILTI system. And the creditable taxes generated by the profitable entity in the previous year? Like a puzzle piece dropped and kicked under a rug, they’re gone, unable to be used.

Outlook

Enacting such rules during the three-year transition and safe harbor period of Pillar Two is vital to give US companies and their tax advisers time to digest, offer commentary, and ultimately implement changes before full calculation rules take effect.

If this can’t be achieved, the US should consider the effective rate of the GILTI tax as currently enacted. There are likely many instances in which top-up taxes would apply, giving foreign tax authorities taxing rights over the profits of the subsidiaries of US multinationals.

Taxpayers and their advisers should exercise patience when it comes to working out the GILTI and Pillar Two puzzle. Hopefully, the US will choose one of these paths forward so all the pieces can be put in the right places.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Jessica Wargo is an international tax partner at Plante Moran.

Write for Us: Author Guidelines