Pillar Two is part of the two-pillar solution provided by the OECD Inclusive Framework on Base Erosion and Profit shifting that seeks to deter harmful tax practices and tax treaty abuses. A closely monitored topic of discussion of late, it is imperative that all jurisdictions assess the benefits of Pillar Two that could accrue post implementation.
As per the Pillar Two framework, large internationally operating businesses will pay at least a minimum level of tax, 15%, regardless of the jurisdictions where they are headquartered or operate in. The following two conditions need to be satisfied for the applicability of Pillar Two:

a.    Group is multinational (multinational enterprise, or MNE); and 
b.    Global revenue of the group is EUR750 million or above. 

For jurisdictions which have Effective Tax Rate (ETR) of less than 15%, the top-up taxes would be computed and be required to be paid. The top-up taxes for a jurisdiction are computed as the difference between the minimum rate of 15% and the ETR for the said jurisdiction. The Pillar Two framework provides for the Income Inclusion Rule (IIR), Under-taxed Payment Rule (UTPR) and Qualified Domestic Minimum Top-up Tax Rule (QDMTT) for collecting the top-up taxes. The framework also offers tax treaty-based rule, or of being subject to tax rule. A brief overview of the rules is discussed below: 

IIR mechanism

IIR provides that the top-up taxes of a Low tax Jurisdiction Entity (LTE) are to be paid by the highest holding entity of such LTE. In case, the highest holding entity has not implemented the Pillar Two law then the Intermediate Parent Entity (IPE) would pay the taxes in respect of LTE.

UTPR mechanism

Any top-up tax which is not collectible under IIR, is garnered through the UTPR mechanism. Under this, any entity in the group structure can pay taxes for the LTE. The entity liable for payment of top-up taxes is not required to be the highest holding entity or IPE.

The UTPR will be implemented for the fiscal years beginning on or after 1 January, 2025.

Qualified Domestic Minimum Top-up Tax (QDMTT)

The QDMTT law enables low tax jurisdictions to collect the top-up taxes themselves without assigning rights to the parent or other jurisdiction.

It is pertinent that IIR, UTPR and the QDMTT, would have to be incorporated into domestic tax laws. There are more than 27 countries which have implemented the IIR and QDMTT law in their domestic legislations for fiscal years beginning on or after 1 January, 2024.

Subject To Tax Rule (STTR) 

A STTR allows source countries to impose an additional tax liability on certain prescribed intra-group payments in case the recipient is subject to a nominal corporate tax rate of less than 9% (adjusted for tax base reductions, such as tax exemptions and tax credits). 

On 3 October, 2023, members of the OCED inclusive framework adopted a multilateral instrument (MLI) to facilitate implementation of the STTR. It is now pending a formal ratification. The STTR applies to ‘covered income’ such as interest, royalties, insurance and reinsurance premiums, fees to provide a financial guarantee, or other financing fees, rent, etc. made between connected persons.

Outlook of Implementation of Pillar Two in India

India has been proactive in the adoption of international tax laws into its domestic tax legislations. With over 27 countries already having incorporated Pillar Two into their domestic tax laws, implementation of Pillar Two in India is now being closely studied by Indian Revenue authorities.

It is important to note that if the QDMTT is implemented by Indian Revenue authorities, it may not result in a real tax benefit as the companies incorporated and / or functioning in India are already paying taxes higher than that arrived at by applying the GloBE Rules. However, India would be able to collect under IIR or UTPR for countries that are not part of the OECD Inclusive Framework for example Bangladesh where Indian MNEs already have presence.

Furthermore, as the IIR and UTPR allocates taxing rights to other jurisdictions, it is likely that maximum jurisdictions will incorporate the QDMTT mechanism and ask MNEs to pay global minimum taxes into their jurisdiction only. In case the QDMTT is adopted, there might be no collection of extra tax revenue in any of the jurisdictions where the parent entity or IPE is established. This may result in a low collection of revenue for India.
With the implementation of Pillar Two, Revenue Authorities in India need to develop a robust system to trace and maintain data of MNEs.

This may also require free flow of financial information among various jurisdiction in which MNEs operate or have presence. Multiple data source points need to be identified for collecting independent information and their integration with existing data. This entails a detailed exercise and an upgradation of the existing methodology adopted to detect cases of non-compliances. The rules of Pillar Two are still evolving and incorporation of these rules into the existing complex tax structure would be a challenging task for Indian Revenue Authorities.