OECD guidance on global minimum tax and US GILTI rules

The OECD has published further guidance on its global minimum tax regime. The purpose of the guidance is to clarify areas of technical difficulty in applying the rules, but its impact is greatest in setting out how the US GILTI rules will be treated under Pillar Two - thereby removing a significant barrier to progress.

The GILTI rules will be treated as a "blended controlled foreign corporation tax regime", and a simplified, mechanical allocation formula is set out in the guidance which allocates taxes arising under GILTI to those companies with the lowest effective tax rates for the purposes of determining whether top-up taxes are required in any jurisdiction.

Getting US support for the global minimum tax is crucial and a pragmatic approach has been found, allowing GILTI to co-exist with the GloBE rules in a way that works for the US without significantly undermining the fundamental GloBE principles.

Pillar Two

Pillar Two of the Global Anti-Base Erosion (GloBE) rules provides for a global minimum level of tax on income for MNEs with more than EUR 750 million in consolidated revenues.

Primarily, this would be imposed by way of an income inclusion rule (IIR) which requires in-scope parent companies of MNEs to pay a top-up tax to bring their effective tax rate (ETR) up to 15% in each jurisdiction in which they operate, subject to a substance-based carveout. This is then backed up by the undertaxed payment rule (UTPR) which provides for source taxation of income not taxed at minimum rates e.g. by way of denying deductions for cross-border payments.

The Pillar Two rules also cater for the possibility of domestic minimum top-up taxes based on the GloBE mechanics. These would take priority over the GloBE rules such that those jurisdictions with a (qualifying) domestic minimum tax would be the first to benefit from top-ups on domestic income, rather than ceding taxing rights to parent company jurisdictions.

GILTI rules to be treated as a Blended CFC regime

One area of difficulty is the extent to which existing domestic regimes can qualify as IIRs or a relevant domestic minimum tax. To do so, they need to operate in a manner equivalent to the GloBE rules and have an equivalent outcome.

The US introduced its Global Intangible Low-Taxed Income (GILTI) rules in 2017. These rules tax US shareholders of controlled foreign companies (CFCs) on their pro rata share of certain CFC income, regardless of whether the income is repatriated. While having similarities with an income inclusion rule, the US GILTI regime operates on a blended basis rather than by jurisdiction. However, it is a key element of the GloBE rules that they operate on a jurisdictional basis.

The US government recently failed to push through reforms to make its GILTI rules compliant with Pillar Two, and therefore GILTI is unable to qualify as an IRR. This left uncertainty as to whether these rules would be completely disregarded for IIR purposes and neither the US government nor US business were happy with the prospect of grappling with the administration and potential double tax charges that could arise under two discrete but overlapping sets of rules.

This guidance sets out the political agreement reached; the GILTI rules will be treated as a "blended controlled foreign corporation tax regime", and GILTI tax will therefore be creditable against GloBE top-up taxes, although the prescribed allocation method must be used.

Allocation method for GILTI taxes

The OECD Model GloBE rules require taxes arising under a CFC regime to be matched with the income on which they arise for purposes of the jurisdictional effective tax rate computations. However, no specific allocation method was set out in the rules. This is not problematic where CFC tax is computed on a standalone basis but, where the tax charge under the CFC regime is computed based on a blend of income, losses and/or creditable taxes of multiple CFCs held by a parent company, it will be impracticable to match taxes and income exactly.

Guidance on the allocation of blended CFC tax charges was therefore urgently required, and a simplified, mechanical allocation formula has been agreed that can be applied to GILTI and other blended CFC tax regimes. 

For a worked example as per the OECD Guidance, see below, but broadly the formula operates as follows:

Step 1: For each CFC, multiply the income attributed to a parent company from that CFC by the difference between the threshold foreign ETR under the CFC regime in question and the ETR of that CFC's jurisdiction as determined under the GloBE rules. This is termed the Blended CFC Allocation key.

Step 2: Add each result from Step 1 to find a total (the Sum of All Blended CFC Allocation Keys).

Step 3: Calculate each CFCs proportion of the total calculated in Step 2.

Step 4: Each CFC is then allocated its proportion (as found in Step 3) of the total amount of CFC tax incurred by the parent (the Blended CFC Tax Allocated).

This results in the tax incurred under a blended CFC tax regime being allocated proportionately to the group companies with the lowest effective tax rates, and therefore with the most significant downward impact on the aggregate effective tax rate of the CFC parent company. This is potentially a generous method of allocation, with no tax allocated to those jurisdictions where the MNE has already cleared the 15% hurdle.

This applies only for a limited period – for fiscal years beginning before the end of 2025 – at which time the allocation method will be reassessed. While the guidance is helpful for the moment, this causes a degree of uncertainty as to the allocation method that may be applied after this period ends.

This temporary solution is considered by the OECD and member countries to be an acceptable compromise, while allowing credit for taxes arising under US GILTI removes the risk of double taxation and 'levels the playing field'; crucial for reaching agreement with the US.

OECD example operation of the formula

Assume the parent company is subject to a blended CFC regime with a threshold foreign ETR of 13.125%. It has CFCs in jurisdictions A, B and C and the parent's proportionate share of the income generated by the CFCs in those jurisdictions is A Co: 100, B Co: 50 and C Co: 25. The parent company has incurred 20 of GILTI tax which must be allocated to the CFCs.

The GloBE Jurisdictional ETR for the jurisdictions are as follows:

• jurisdiction A: 10%,
• jurisdiction B: 20%, and
• jurisdiction C: 5%.

The Blended CFC Allocation Key for each CFC is computed as set out below:

The 20 of Blended CFC Tax Regime tax is then allocated as follows:

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