Pillar Two: Global Minimum Taxation

On 20 December 2021, the OECD/G20 Inclusive Framework (IF) on Base Erosion and Profit Shifting (BEPS) released the  Model Global Anti-Base Erosion (GloBE) rules (Model Rules) under Pillar Two aiming to ensure that income is taxed at an appropriate rate. These Model Rules set forth the “common approach” for a Global Minimum Tax at 15% for multinational enterprises with a turnover of more than EUR750 million and provide for several complicated mechanisms to ensure this tax is paid. The rules are complex and will require substantial new forms of financial data that tax departments may not currently have access to within their organization.

The aim is purported to be achieved through the application of two interlocking rules (the GloBE rules):

The Income Inclusion Rule (IIR): Requires Ultimate Parent Entities (UPEs) to pay a top-up tax if their foreign subsidiaries are taxed below the minimum rate.

Undertaxed Profits Rule (UTPR): Will act as a backstop rule to the IIR by allocating the taxing rights over the income that is taxed below the effective tax rate of 15% to entities within the MNE group in jurisdictions other than the UPE jurisdiction. 

As a response to the GloBE rules, the European Union has released Council Directive (EU) 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 aligning the EU position with the GloBE rules and providing for domestic transposition by Member States by January 1st, 2024.

Under the Directive, Member States have the option to elect and apply a Qualified Domestic Top-Up Tax (QDMTT) for companies that are based in their own jurisdiction. This will allow such jurisdictions to collect the top-up tax in their own jurisdiction instead of allowing a foreign jurisdiction to charge top-up taxes elsewhere. Cyprus has elected to adopt the QDMTT and will be effective as of 1 January 2025.

As of the date of this alert, the Directive is pending transposition into domestic law under a draft legislative proposal (the Draft Bill)  issued by the Cyprus Ministry of Finance (“The Safeguarding of a Global Minimum Level of Taxation of Multinational Enterprise Groups and Large-Scale Domestic Groups in the Union Law of 2023"), harmonizing the Cyprus tax framework with the Directive and introducing the Income Inclusion Rule (IIR) and the Undertaxed Profit Rule (UTPR) for large multinational and domestic groups with annual consolidated revenues exceeding €750 million.

 This proposal does not per se amend the Cyprus Income Tax legislation; the Draft Bill introduces an additional set of tax rules to be applied alongside the application of CIT and other relevant taxes for MNEs in scope.

Overview of the Draft Legislative Proposal:

1. Effective Dates: The proposal introduces the Qualified Income Inclusion Rule (QIIR) will be effective for accounting periods beginning on or after 31 December 2023 while Qualified Undertaxed Profits Rule (UTPR) is effective for accounting periods beginning on or after 31 December 2024.
   
   
2. Cyprus adoption of qualified domestic top-up tax: Cyprus has elected to adopt the QDMTT and will be effective as of 1 January 2025. This will allow Cyprus jurisdiction to collect the top-up tax in its own jurisdiction instead of allowing a foreign jurisdiction to charge top-up taxes elsewhere.
   
   
3. Exemptions: The scope of exclusion from top-up taxes is expanded in the Draft Bill to cover international shipping income and activities falling under alternative tax regimes, deviating from the Directive. The final version may differ.
   
   
4. De minimis exclusion: At the annual election of the Filing Constituent Entity the Top Up Tax for the Constituent Entities located in the jurisdictions shall be deemed to be zero for a fiscal year for jurisdictions where the MNE has (i) an Average GloBE Revenue that is less than €10m and (ii) an Average GloBE Income or Loss that is either a loss or less than €1m, computed on a three-year average basis.
   
   
5. Safe Harbours: The Draft Bill obliges Cyprus to respect safe harbours, subject to EU Member States' consent. On March 22, 2023 and on October 23, 2023, the Minister of Finance of Cyprus has sent two letters to the European Commission confirming that Cyprus consents to the December 15, 2022 and the July 13, 2023 Administrative Guidance respectively.
   
   It should be noted that the draft legislation indicates that no top-up tax would be imposed on entities that meet the requirements of an "acceptable international safe harbour agreement". Such an agreement would be determined though a decree issued by the MoF.
   
   Broadly, the transitional safe harbour serves as a temporary provision enabling multinational enterprises to exempt their less risky country operations from the comprehensive compliance requirements of preparing full Pillar Two calculations. This safe harbour is applicable for fiscal years commencing on or before December 31, 2026 (excluding those ending after June 30, 2028), offering a three-year timeframe for most groups to avail themselves of this opportunity.
   
   
6. Filing and Notifications Obligations:
   
   Notification Requirement: Every Cyprus constituent entity is obligated to notify the Cyprus tax authorities (CTA) no later than 15 months after the end of the relevant fiscal year or 18 months in the case of a transition year.
   
   Top-Up Tax Local Return Filing and Payment: All Cyprus constituent entities must annually submit their local self-assessment filing and make payments within 30 days of the GloBE Information Return's due date, which, according to the Draft Bill, is no later than 15 months after the end of the relevant fiscal year or 18 months in the case of a transition year.
   
   Penalties: The Draft Bill specifies penalties for late filings, delayed payments, postponed submissions, and other violations. These penalty amounts align with those imposed by the Cyprus Assessment and Collection Laws for notifications, returns, and those related to Country-by-Country Reporting.
   
   Transitional Period of Administrative Fines and Penalties: For fiscal years commencing on or before December 31, 2026 (excluding any tax year ending after June 30, 2028), no administrative fines and penalties will be imposed for the submission of top-up tax local return filings, provided the CTA is satisfied that the relevant MNE Group has taken all necessary actions to comply with the law's provisions. The CTA would consider the MNE Group to have fulfilled requirements if it can demonstrate acting in good faith to understand and apply the law's provisions.
    

As a side note, the Bill is still in draft pending transposition; therefore, certain positions may differ.

With the implementation of Pillar Two rules anticipated by the end of 2023, Multinational Enterprise Groups (MNE) should start taking into consideration the impact of the Globe rules in their tax position. A proactive approach in addressing any potential challenges will be considered as vital aspect for the successful implementation of Pillar Two rules. 

Should you like to further discuss the content and potential impact of the above to your business, please contact one of our trusted advisors from the Tax Department at KPMG in Cyprus.