GLOBAL MINIMUM TAX : Rules on Corporate Restructurings and Holding Structures

[Amit Jalan]

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Pillar Two will have a pervasive impact on an organisation’s financial operating model for large multinational organisations. Given the anticipated tax law changes in many countries, professionals – both in practice and industry will need to be equipped to address the multitude of challenges.

In the last edition, we discussed in detail special rules that deal with corporate restructurings (including mergers, acquisitions, and demergers) and covered in detail Article 6.2 relating to the rules that apply when a Constituent Entity enters or leaves an MNE Group during the Fiscal Year.

In this article, we will cover Article 6.3 of the GloBE Rules that provides special rules for the treatment of transfers of assets and liabilities including as part of a reorganisation.

We hope this bulletin adds Value to your professional Sphere.

To recap, Chapter 6 contains rules relating to acquisitions, disposals and Joint Ventures, summarised as below:

• Article 6.1 supplements Article 1.1 by providing further rules to assess the consolidated revenue threshold for determining the applicability of the GloBE Rules to an MNE Group and its constituent entities in case of merger and demerger transactions that took place in the prior four-year period.

• Article 6.2 provides special rules for the application of the GloBE Rules that apply when a Constituent Entity enters or leaves an MNE Group during the Fiscal Year.

• Article 6.3 provides special rules for the treatment of transfers of assets and liabilities including as part of a reorganisation.

• Article 6.4 brings certain Joint Ventures within the scope of the GloBE Rules.

• Article 6.5 provides special rules for Multi-Parented MNE Groups.

We have covered below in detail, Article 6.3 which provides special rules for the treatment of transfers of assets and liabilities including as part of a reorganisation.

Article 6.3 covers four sub-articles, viz. 6.3.1 to 6.3.4

As per Article 6.3.1, in the case of a disposition or acquisition of assets and liabilities that is not part of a GloBE Reorganisation (refer to note1 below), the disposing Entity must include gain or loss from the disposition of assets and liabilities in its computation of GloBE Income or Loss and the acquiring Entity must use the adjusted carrying value as determined under the financial accounting standard used in preparing the Consolidated Financial Statements of the UPE. The Article follows the accounting treatment for both the disposing Entity and the acquiring Entity, which requires the seller to recognise the gain or loss on the disposition of assets and liabilities and the acquirer to use the acquisition price, which is generally the fair value of the assets, to measure the assets and liabilities upon its acquisition. The acquiring Entity may be required under the applicable accounting standard to recognise assets and liabilities that were not recognised in the financial accounts of the disposing Entity, such as goodwill or other intangible assets. In addition, the acquiring Entity may be required to recognise bargain purchase gains under the applicable accounting standard. In such cases, amortisation of the intangible assets or the bargain purchase gain will be included in the computation of GloBE Income or Loss only to the extent included in the acquiring Entity’s Financial Accounting Net Income or Loss. In a transfer to which Article 6.2.2 applies, the carrying value of the acquired assets and liabilities for GloBE purposes is based on their fair value to the extent gain or loss on those assets and liabilities was included in the GloBE Income or Loss computation of the selling MNE Group. The fair value must be used in the computation of the acquiring Entity’s computation of GloBE Income or Loss in the acquisition year and subsequent Fiscal Years irrespective of whether the fair value adjustments are reflected in the Entity’s financial accounts or the MNE Group’s consolidated financial accounts.

As per Article 6.3.2, if the disposition or acquisition of assets and liabilities is part of a GloBE Reorganisation (refer to note1 below), Article 6.3.1 shall not apply and:

a) a disposing Constituent Entity will exclude any gain or loss from the transfer of the assets and liabilities in the computation of its GloBE Income or Loss; and

b) an acquiring Constituent Entity will determine its GloBE Income or Loss after the acquisition using the historical / disposing of Entity’s carrying amounts of the acquired assets and liabilities. The Constituent Entity must maintain accounting records to support the computation of GloBE Income or Loss by reference to the historical carrying amounts of the acquired assets and liabilities.

As per Article 6.3.3, if a disposition or acquisition of assets and liabilities is part of a GloBE Reorganisation in which a disposing Constituent Entity recognises Non-qualifying Gain or Loss, Articles 6.3.1 and 6.3.2 shall not apply and:

a) the disposing Constituent Entity will include gain or loss on the disposition in its GloBE Income or Loss computation to the extent of the Non-qualifying Gain or Loss; this means that the computation of GloBE Income or Loss will include the lower of gain or loss reflected in the financial accounts or the taxable gain or loss arising from the GloBE Reorganisation; and

b) the acquiring Constituent Entity will increase or decrease the carrying amounts of the acquired assets and liabilities to account for the Non-qualifying Gain or Loss. The changes in carrying value must be allocated among assets and liabilities in a manner consistent with the increases and decreases of those assets under the tax law applicable to the acquiring Constituent Entity. For example, if the Constituent Entity is required by local tax rules to allocate the basis increases due to the tax gain, first to depreciable assets up to the amount of built-in gain on such assets, and then to inventory and other current assets, the Constituent Entity must do the same for GloBE purposes. However, the increase or decrease in carrying value of assets and liabilities for GloBE purposes cannot exceed the Non-qualifying Gain or Loss.

As per Article 6.3.4, if a Constituent Entity of an MNE Group is required or permitted to adjust the basis of its assets and the amount of its liabilities to fair value for tax purposes in the jurisdiction in which it is located (refer to note2 below), and elects to adjust as such, shall:

a) recognise gain or loss and adjusts the carrying value of its assets and liabilities in the computation of its GloBE Income or Loss. The election, however, does not apply to ordinary sales of assets (eg. sales of inventory) by a Constituent Entity or transfer pricing adjustments. The adjustment to the carrying value of assets and liabilities and the corresponding recognition of gain or loss is calculated as:

i) the difference between the carrying value for financial accounting purposes of the asset or liability immediately before the date of the event that triggered the tax adjustment (the triggering event), and the fair value of the asset or liability immediately after the triggering event; and

ii) reduced (or increased) by the amount of any gain (or loss) already recognised as NonQualifying Gain or Loss. This prevents duplication of gains and losses that have already been included in the GloBE Income or Loss computation under Article 6.3.3.

b) use the fair value of the assets and liabilities to compute its GloBE Income or Loss in the Fiscal Years ending after the triggering event. The fair value to be used is the fair value of the assets determined pursuant to the financial accounting standard used in the Consolidated Financial Statements.

c) the net gain or loss on all of the Constituent Entity’s assets and liabilities determined under para 6.3.4 (a) can be included in the computation of GloBE Income or Loss in the Fiscal Year in which the triggering event occurs or it can be spread pro-rata over five consecutive Fiscal Years starting with the Fiscal Year in which the triggering event occurs. If the total net gain or loss is spread over five Fiscal Years and the Constituent Entity leaves the MNE Group before the end of the five-year period, the remainder of the gain or loss must be accelerated and taken into account in the Fiscal Year that the Constituent Entity leaves the MNE Group.

Note1: Under Article 10.1 of the GloBE Rules, GloBE Reorganisation means a transformation or transfer of assets and liabilities such as in a merger, demerger, liquidation, or similar transaction where:

a) the consideration for the transfer is, in whole or in significant part, equity interests issued by the acquiring Constituent Entity or by a person connected with the acquiring Constituent Entity, or, in the case of a liquidation, cancellation of equity interests of the target (or, in a capital contribution, no consideration is necessary where the issuance of an equity interest would have no economic significance – for e.g. contribution of assets to the capital of an existing Entity where the Entity does not issue new or additional Ownership Interests in exchange for the contributed property because the transaction does not result in a change in the relative ownership of the Entity and the issuance of additional Ownership Interest would be meaningless);

b) the disposing of Constituent Entity’s gain or loss on those assets is not subject to tax, in whole or in part; and

c) the tax laws of the jurisdiction in which the acquiring Constituent Entity is located require the acquiring Constituent Entity to compute taxable income after the disposition or acquisition using the disposing Constituent Entity’s tax basis in the assets, adjusted for any Non-qualifying Gain or Loss on the disposition or acquisition.

A “transformation” for this purpose is a change in the form of an Entity, for example, a change from a partnership to a corporation.

A person should be treated as “connected” with the acquiring Entity for this purpose if it meets the test set out in Article 5(8) of the OECD Model Tax Convention, viz. a person or an enterprise is closely related to an enterprise if, based on all the relevant facts and circumstances, one has control of the other or both are under the control of the same persons or enterprises. In any case, a person or enterprise shall be considered to be closely related to an enterprise if one possesses directly or indirectly more than 50% of the beneficial interest in the other (or, in the case of a company, more than 50% of the aggregate vote and value of the company’s shares or of the beneficial equity interest in the company) or if another person or enterprise possesses directly or indirectly more than 50% of the beneficial interest (or, in the case of a company, more than 50% of the aggregate vote and value of the company’s shares or of the beneficial equity interest in the company) in the person and the enterprise or in the two enterprises.

Note 2: A Constituent Entity may be required or permitted to adjust the tax basis of its assets or the tax amount of its liabilities for a variety of reasons. Most commonly where a Constituent Entity is subject to an exit tax because of a cross-border reorganisation or a change in the Entity’s tax residence. Additionally, a Constituent Entity may be required to adjust the tax basis or amount of some or all of its assets and liabilities when it joins or leaves a tax-consolidated group.