- Amount A is proposed to come into effect in 2023 and will apply to MNE groups with a global turnover above EUR 20 billion (or local equivalent) and profitability above 10%, subject to some exceptions (hereafter referred to as "Covered Groups"). The newly published draft model rules on Scope provide more details on how these two thresholds will apply.
- Covered Groups are subject to Amount A if they meet the following two threshold tests:
- The Covered Group's total revenues must exceed EUR 20 billion (or local equivalent) in the current period at hand (so-called 'global revenue test'). The total revenue threshold is currently denominated in EUR. The impact of currency fluctuations, which will be relevant for Covered Groups that use a different functional currency for their group accounting, is currently still a topic for discussion for the members of the Inclusive Framework. As previously reported, it is still intended that the total revenue threshold will be reduced to EUR 10 billion (or local equivalent) after seven years.
- The Covered Group's pre-tax profit margin must exceed 10% in all of the following three tests:
- in the current period, i.e., fiscal year (so-called 'period test');
- in two or more of the four periods immediately preceding the current period (so-called 'prior period test'); and
- in the five-year weighted average across the current period and the four prior periods (so-called 'average test').
- The rationale for the 'prior period test' and the 'average test' is that it becomes more predictable for taxpayers to assess whether they fall under Amount A or not. The tests ensure that MNE groups whose profitability is extraordinarily skewed due to an outlier are not in scope of Amount A and, thus, prevents them from facing undue compliance efforts.
- Whilst these two threshold tests seem fairly straight-forward, uncertainty still remains since some of the most pressing questions as regards the scope of Amount A are not addressed yet:
- This relates inter alia to the potential application of Amount A to individual segments of an MNE group, e.g., a group whose overall profitability is below the 10% whilst individual business segments of the group have a pre-tax profit margin well above the 10%. It appears that an individual segment will be subject to Amount A if it meets both the 'global revenue test' and the profitability test(s). How a profitable segment is to be dealt with which may already be caught by the rules if the group itself exceeds the EUR 20 billion revenue threshold is not clear at this stage.
- Moreover, there are no detailed provisions yet on the exclusion of Extractives and Regulated Financial Services from scope of Amount A.
- In addition, several footnotes to the model rules indicate that even the 'global revenue test', 'prior period test' and 'average test' are still subject to ongoing discussions. For example, it is being considered whether to also add a 'prior period test' and an 'average test' to the revenue threshold requirement. Further, it is contemplated that the 'prior period test' and the 'average test' will only be applied to determine initial "entry" of an MNE group into the Amount A scope, but these tests will not then be applied on a go-forward basis. Whilst the latter might simplify the scope to some extent, it would certainly counteract the desired "stability to the operation of Amount A".
- The draft model rules also contain provisions on the applicability of the 'prior period test' and the 'average test' in case where a group merger or group demerger has occurred. In general, it is the intention to avoid the need for any retrospective recalculations to reflect the restructuring impact. This is achieved by essentially using the existing financial data in prior periods of either the acquiring group or the group prior to demerger, for the test calculations.
- Lastly, the draft model rules contain an anti-abuse provision in the form of an anti-fragmentation rule which is relevant to MNE groups that are owned directly or indirectly by an 'excluded entity' (e.g., a pension fund), 'investment fund' or 'real estate investment vehicle'. The anti-fragmentation rule aims to prevent MNE groups from implementing structures that result in a deliberate splitting of group revenue to be assessed under the 'global revenue test'. An example for such structure would be the fragmentation of a group into two subgroups, both owned by an excluded entity and both with its own ultimate parent entity for consolidation purposes.
- MNE groups are therefore well-advised to start familiarizing themselves with the draft model rules on the Scope of Amount A to determine whether Amount A will be of relevance for them. A more detailed analysis will be required once the model rules on segmentation and exclusions have been issued. With many more building blocks of Amount A yet to be published, it is still a long way to go until the complete package of Amount A model rules are finalized and eventually complemented by an explanatory commentary.
The Model Rules will serve as the basis for the substantive provisions that will be included in the Multilateral Convention, which is intended to implement Amount A, as well as provide a template that jurisdictions could use as the basis to give effect to the new taxing rights over Amount A in their domestic legislation.
The draft model rules subject to consultation cover one building block of Amount A, namely Scope. The current draft does not reflect the final views of the Inclusive Framework members at this stage and is a working document released by the OECD Secretariat for the purpose of obtaining input from stakeholders.
The Scope draft model rules are required to determine the applicability of Amount A for taxpayers. An explanatory commentary is yet to be released to further complement the model rules.
In addition to the comments outlined in the Overview section above, the following points are worth noting:
- When applying the 'global revenue test' it is not sufficient to simply use the top line of the consolidated profit and loss statement. Certain adjustments to the total revenues as reported in the consolidated F/S are required such as, amongst other, the exclusion of revenue derived from dividends and equity gains (or losses). These adjustments intend to bring alignment with the rules on the Tax base determination as described in our last client alert. Moreover, revenues from joint ventures that are accounted for under the equity method must be added. In this regard, the model rules on Pillar One appear less detailed than the rules on joint ventures under Pillar Two. For example, the definition of a "Joint Venture" under Pillar One does not take into account the scenario where the joint venture entity itself is an ultimate parent entity.
- The draft model rules include various defined terms. Some of these definitions were published in earlier consultation documents but have been revised in the meantime. Most notably, on various fronts there is now a closer alignment with the Pillar Two model rules, e.g., the definition of "Controlling Interest" has been modified accordingly. This is a welcome development.
- When calculating the MNE group's pre-tax profit margin, the financial accounting profit (or loss) must be adjusted for the 'book-to-tax adjustments' and 'restatement adjustments' that we analyzed in our last client alert with respect to the model rules on Tax base determinations. It is now clear in particular that 'adjusted profit before tax' (relevant for the profit reallocation under Amount A) is differentiated from 'pre-tax profit' (relevant for the scope's profitability threshold).
The OECD will collect public comments on the Scope draft model rules until 20 April 2022. It is then expected that more detailed commentary on a number of technical items (as described in this alert) will be released.
Furthermore, the OECD has announced that it will release more details on the remaining building blocks of Amount A, being: Segmentation, Exclusion - Extractives, Exclusion - Regulated Financial Services, Tax Certainty for Amount A, Tax Certainty for Issues Related to Amount A, Elimination of Double Taxation, Marketing and Distribution Profits Safe Harbor, Withholding Taxes, Administration, and Unilateral Measures.
There is therefore a significant amount of further drafting of model rules required. We will continue to closely monitor and provide client alerts on these future developments around Pillar One.