Luxembourg releases draft law to implement global minimum tax
Introduction
On 4 August 2023, the Luxembourg draft law to implement the global minimum tax was released (n°8292, hereafter “the draft law”). The draft law would transpose the EU Council Directive 2022/2523 of 14 December 2022 on ensuring a global minimum level of taxation for multinational enterprise groups and large-scale domestic groups in the Union, known as the EU Pillar Two Directive or the GloBE Directive (Global anti-Base Erosion Directive). The EU Pillar Two Directive aims to implement a jurisdictional minimum taxation of at least 15 % and is based on the OECD Model Rules on Pillar Two that were released on 20 December 2021, with some necessary adjustments to guarantee conformity with EU law. The rules apply specifically for groups with a consolidated revenue of at least €750 million in at least two out of four preceding years.
Pillar Two Luxembourg draft law
In Luxembourg, the implementation of the EU Pillar Two Directive would be through a separate law, it foresees the implementation of 3 new taxes in Luxembourg, an Income Inclusion Rule tax (hereafter IIR, or in French impôt relatif à la règle d’inclusion du revenue, RIR), an Undertaxed Profits Rule tax (hereafter UTPR, or in French impôt relatif à la règle des bénéfices insuffisamment imposés, RBII) and a Qualified Domestic Minimum Top-up Tax (hereafter QDMTT, or in French impôt national complémentaire). The IIR and the QDMTT are set to become effective for fiscal years starting on or after 31 December 2023, whereas the UTPR would become effective for fiscal years starting on or after 31 December 2024. The draft law closely follows the EU Pillar Two Directive and the Transitional Safe Harbour Rules issued by the OECD in December 2022 but has only selectively included OECD Administrative Guidance from February and has not included OECD Administrative Guidance from July.
The introduction of Pillar Two rules could lead to potential top up taxes where the effective tax rate of entities in certain jurisdictions falls below the minimum rate of 15%. The effective tax rate would need to be calculated by following the Pillar Two rules, which is a separate set of rules from local tax rules. This means that even if a group would be present only in high tax countries, this does not necessarily mean that no top-up tax may be due under the Pillar Two minimum taxation rules.
What is the impact of Pillar Two on the banking industry and how can banks prepare?
Unlike Pillar 1, the Pillar Two rules do not foresee an exclusion for the financial industry, which means that banks/insurance/reinsurance groups would be fully in scope of the minimum taxation rules.
For Pillar Two purposes, a group and its constituent entities are defined as entities which are related through ownership or control and included in the consolidated financial statements (or deemed group financial statements in absence of an actual consolidation) of the Ultimate Parent Entity, i.e., following a line-by-line consolidation in which assets, liabilities, income, charges and cash flows are presented as a single economic unit (extending also to entities that are excluded from consolidation based on size, materiality or on the grounds that the entity is held for sale).
Therefore, banking groups should assess which entities could fall within the scope of the rules, including entities which may currently not be part of the financial consolidation, or which may require a specific treatment under the Pillar Two rules, such as flow-through entities, investment entities, minority-owned constituent entities (entities which are consolidated line-by-line in which the groups hold a direct or indirect ownership of less than 30%), Joint Ventures and others.
A point of particular attention for banking groups relates to permanent establishments that should be considered as separate entities for Pillar Two purposes meaning that a separate ETR calculation would need to be done based on the permanent establishment’s results. Another point of particular attention relates to tax credit for investments. Tax credits could decrease the amount of covered taxes for the purpose of calculating the effective tax rate, unless the credits qualify for a beneficial treatment under the Pillar Two rules such as Qualified Refundable Tax Credits (QRTCs) or Qualified Flow through Tax Benefits for tax equity structures (QFTBS). QRTCs require that the credits are refundable in cash or cash equivalents within 4 years as from the date the entitlement to the tax credit arises. Luxembourg tax credits are currently not refundable, nor transferable as they are credited against Luxembourg corporate income tax. Therefore, Luxembourg companies amongst others, banks, using tax credits would decrease their covered taxes (leading to a decrease of the ETR) and the impact of using such credits on the Pillar Two effective tax rate should be reviewed in detail. The draft law currently adheres to the wording of the EU Pillar Two Directive and does not foresee the considerations outlined by the OECD Administrative Guidance of February 2023 (including the pre-GloBE deferred tax assets with respect to tax credits to be utilised in calculating the effective tax rate) and July 2023 (including notably the guidance on Marketable Transferable Tax Credits). Nevertheless, we expect the final Luxembourg rules to be more explicit on the OECD Administrative Guidance issued in February and July 2023 with respect to tax credits.
In terms of compliance obligations, the draft law mentions that all Luxembourg constituent entities shall register with the Luxembourg direct tax authorities (Tax Office Sociétés Diekirch of the direct tax administration) at the latest within 15 months after the end of a Pillar Two fiscal year (which would generally follow the group consolidated financial year) or within 18 months after the end of the transition year (first year of application of the rules). This registration is separate from the existing corporate tax registrations and would be only for Pillar Two purposes. In addition, a GloBE information return (GIR) would in principle be due by each Luxembourg constituent entity unless a designated Luxembourg filing entity or a group parent entity is appointed. Moreover, separate tax returns may be required for local domestic top up tax (QDMTT) and such separate tax returns may require local representatives to file Pillar Two tax returns in Luxembourg even if a GIR could potentially be filed by another entity of the group.
In light of the above rules, banking groups within scope will need to understand, evaluate, and model the impacts of Pillar Two across the organisation. This includes, but is not limited to, assessing the additional data and reporting/compliance requirements, evaluating the existing technology ecosystem and capabilities, establishing processes and controls, preparing and training resources, and managing stakeholder expectations.
PwC Luxembourg and the PwC network firms provide tailor made solutions to prepare groups for their Pillar Two obligations, including estimating potential top-up tax impact, preparing systems for data gathering and automation, upskilling teams and assisting groups with the Pillar Two compliance process.
