Navigating the New Tax Landscape: What is the OECD’s Pillar One and Two?

In October 2021, the UK and over 135 other countries agreed to be part of The Organisation for Economic Co-operation and Development’s (“OECD”) Inclusive Framework. This organisation is designed to help mitigate tax avoidance and bring consistency to international tax rules. The aim is to have a more transparent tax environment through a two-pillar approach. 

Understanding the Fundamentals

Pillar One

Firstly, Pillar One of the OECD framework looks at the largest group of companies. Specifically, those with an annual global turnover exceeding €20 billion and 10 per cent profitability. It is, therefore, unlikely to impact many companies across the UK. Its purpose is to reallocate a portion of a company’s income to be taxed in the jurisdiction where revenue is sourced, irrespective of whether they have a physical presence there. It is unknown when Pillar One will be introduced; consultations are still occurring.

Pillar Two

Pillar Two will be introduced on 1 January 2024. This aims to ensure multinational entities have a global minimum effective tax rate of 15% in each jurisdiction. It will apply to any group with international operations with global consolidated revenues exceeding or exceeding €750m/£656m per year.

Therefore, the rules are complex and require companies to analyse vast amounts of financial data from multiple sources. Companies not meeting the 15% tax rate in specific jurisdictions could pay a charge. Additional calculations determine the group’s top-up amount in the relevant jurisdiction.

Exclusions, Safe Harbours, and Implications

Certain entities are to be excluded from the rules, including government entities, international organisations, non-profit organisations and pension funds.

Whilst ‘safe harbours’ are also available, these calculations are still required to determine whether the safe harbours apply. These are designed to reduce the complexity of performing detailed calculations and aid in meeting potentially burdensome compliance obligations.   

It is down to each country to enact its legislation to apply the Pillar Two rules. For example, this has been adopted as the multinational and domestic top-up taxes in the UK.

Multinational top-up tax

Multinational top-up tax will be charged on UK parent members with one or more non-UK subsidiaries. Notably, the group’s profits arising in the subsidiaries’ territory are taxed at an effective rate below the 15% minimum rate.

Ordinarily, the group’s ultimate parent company has the right to collect top-up tax. But exceptions exist. If the parent company resides in a territory without Pillar 2 legislation, the right shifts. It moves to the following jurisdiction in the ownership chain.

Domestic top-up tax

The domestic top-up tax can apply to wholly domestic groups. As a result, UK standalone entities or multinational groups that meet the qualifying conditions may still be affected. The legislative provisions are broadly the same as those for the Multinational top-up tax and effectively result in UK members of a multinational group having an effective tax rate of 15% because of UK taxes only.

As a result, most in-scope businesses must disclose any material effects of Pillar Two for accounting periods commencing on or after 31 December 2023.

If you think this could affect your business or want to understand more, don’t hesitate to contact one of our international tax team on 01903 234094