In late 2020, the OECD released a set of work-in-progress proposals aimed at reforming the international tax system. They were intended to address taxation challenges arising from the digitalisation of the economy and remaining concerns around base erosion and profit shifting (BEPS). The proposals consist of two pillars. Pillar One is targeted at highly digitalised and consumer-facing businesses. Pillar Two focuses on the development of a global minimum effective tax rate (ETR).
Much of the focus for the insurance industry has been on Pillar Two. Here we look at those proposals and what they may mean for insurers.
The Global Anti-Base Erosion (GLoBE) rules give parent and source jurisdictions a right to tax untaxed/ undertaxed income where the ETR for a large multinational enterprise (MNE) is below an established minimum rate in a jurisdiction. The proposed minimum ETR has not yet been announced, though the economic analysis conducted as part of the OECD process used 12.5%.
Although many insurance groups will have global ETRs well in excess of the minimum, this is not always the case on an individual country basis. Also, the design of the rules, as proposed in the blueprint released in October 2020 do not deal with some of the specific aspects of the insurance industry, so without modification could lead to incremental tax even for groups where the ETR is above the minimum rate.
The IIR is similar in concept to a controlled foreign company (CFC) rule, it triggers additional tax at the level of the parent company of a consolidated group where the income of a foreign subsidiary is taxed below the minimum ETR. Where the parent company does not adopt the IIR, it can apply at the level of an intermediate parent company down the chain instead.
This rule is intended to be a backstop for the IIR, for cases where the IIR does not apply. The overall principle is the same, i.e. an additional tax is levied on an MNE where their ETR in any jurisdiction falls below the minimum rate. This rule will operate by allocating a ‘top up’ tax to other group members.
This rule is intended to remove obstacles in double tax treaties which could otherwise prevent the IIR from applying as intended in the case of certain exempt branches
The STTR operates separately to the GLoBE rules and is designed to work by subjecting certain payments (including interest, royalties and other “high-risk services”) to a top-up tax at source, where the recipient of the payment is not subject to tax at a sufficient rate.
Many insurance groups have operations in lower tax jurisdictions which have the potential to be subject to additional tax through one of the measures discussed above.
In addition, the proposals as currently drafted could give rise to some unintended consequences for the industry which could lead to additional or double taxation in some cases. There has been a recent public consultation process where it was noted that a significant number of responses were received from the insurance industry and the OECD and the Inclusive Framework on BEPS (IF), a group which brings together all interested countries and jurisdictions to work together on BEPS issues, is engaging with industry to address the issues raised. It is therefore envisaged there will be modifications to the design of the rules, including hopefully some which address the points below, all of which have been raised during the consultation:
The Blueprint proposes that the ETR is calculated by reference to current tax only. Timing differences are dealt with by a series of credits and carry forwards within the rules, so there is no concept of, or recognition of deferred tax.
The public consultation posed a number of questions in relation to the operation of these carry-forwards and credits and this topic in particular received a lot of responses from the insurance industry. The proposals as currently drafted do not deal with the long term and cyclical nature of insurance business or regulatory/ capital requirements, which could lead to additional taxation above the minimum required ETR.
We expect discussion in this area to continue, to address these concerns.
The Blueprint acknowledges that transitional rules will be required to deal with pre-regime losses. There is concern however that if the transitional period is limited, to say seven years, then any insurers carrying forward losses over a longer period would lose the benefit of them.
The Blueprint specifically includes (re)insurance premiums as a payment to which the STTR would apply, alongside, amongst other items, interest and royalties. The comments in the Blueprint would suggest there is a lack of understanding about the cyclical nature of the industry, as premiums in one year may cover losses arising in another year. As such there could be additional tax on insurers if premiums continue to be included within the STTR without modification.
The treatment of investment return is very important for insurers. The Blueprint suggests that investment funds should be excluded from the scope of the rules, however the exclusion as currently defined would not cover investment funds consolidated within MNE groups, as is sometimes the case within insurance groups.
Many businesses are now starting to use these draft proposals to assess the impact on their business. Early identification of risks means it may be possible to mitigate significant issues, as well allowing effective advance communication with stakeholders.
There are numerous discussions ongoing with policymakers and through business associations. Engaging in these discussions means that the relevant issues for your business can be raised and discussed while the rules are still being developed.
PwC has been involved in the BEPS 2.0 discussion from the beginning, at an Irish and global level. We have specialists who understand both the proposals and how insurance groups operate and would be happy to discuss how the provisions of Pillar Two might affect your business in further detail. Contact us today.