GloBE Rules Series

ITQ G-

064

July 7, 2023

Question

XCo, a company located in jurisdiction X, is a Constituent Entity in an MNE Group which is "within scope" of the GloBE rules. The jurisdiction X corporate income tax rate is 20%. XCo is the only Constituent Entity located in jurisdiction X.

XCo owns 100% of the shares in YCo, a company located in jurisdiction Y. The jurisdiction Y corporate income tax rate is 10%. YCo is treated as a resident company for jurisdiction Y tax purposes; however, it is treated as tax transparent (a "disregarded entity") for jurisdiction X tax purposes. YCo is the only Constituent Entity located in jurisdiction Y.

Anti-hybrid mismatch rules are not included in the corporate income tax law of either jurisdiction X or Y. However, both jurisdictions have implemented the GloBE rules, including a QDMTT (in effectively the same form as the GloBE model rules).

For a fiscal year, YCo's GloBE Income is 100. Its taxable income (for jurisdiction Y corporate income tax purposes) is also 100. In computing the 100, these items are taken into account:

Interest expense of 30 (on a loan from XCo) is deducted.
Interest income of 10 (on a loan to a third party bank) is included.
Fee income of 15 (for provision of know-how to third parties) is included.

For jurisdiction X purposes, YCo's before-tax profit is included in XCo's taxable income. The amount of profit so included is 130, after "adding back" the disregarded interest expense of 30. XCo is entitled to a foreign tax credit for the jurisdiction Y corporate income tax paid by YCo on that profit. In calculating the foreign tax credit, please assume that no expenses or losses are deducted from the foreign source income.

Based on this information, what is YCo's Adjusted Covered Taxes for that fiscal year?

Answer

YCo's Adjusted Covered Taxes:

YCo's current tax expense: 10% x 100 = 10.
YCo's deferred tax expense: 0.
XCo's Covered Tax allocated to YCo under Art. 4.3.2(d) [see Note A below]: 14.9.
Adjusted Covered Taxes: 10 + 14.9 = 24.9. [See Note B below]

Note A:

a. YCo is a "Hybrid Entity" (defined in Art. 10.2.5).

b. XCo's Covered Tax on YCo's profit (after foreign tax credit 10): (20% x 130) - 10 = 16.

c. Art. 4.3.3 limitation must be determined …

d. YCo's "Passive Income" (defined in Art. 10.1.1): know-how fee income is probably not a "royalty" (not defined), and therefore not "Passive Income". However, YCo's interest income of 10 would be Passive Income. The question does not provide full information on YCo's expenses, although the interest expense incurred to XCo is mentioned. The Comm does not discuss whether Passive Income is determined before or after deducting related expenses. Based on the wording of the definition in Art. 10.1.1, my preferred view is that related expenses are not deducted. If this is correct, YCo's Passive Income is 10.

e. Art. 4.3.3, para. (a) should be: 16 x (10 / 100) = 1.6

f. Art. 4.3.3, para. (b) should be: 5% x 10 = 0.5.

g. Thus, Art. 4.3.3 limitation is 0.5.

h. XCo's Covered Tax on YCo's profit (excluding YCo's Passive Income): 16 x (90 / 100) = 14.4.

i. XCo's Covered Tax allocated to YCo under Art. 4.3.2(d) (after applying Art. 4.3.3 limitation): 14.4 + 0.5 = 14.9.

Note B: In discussing QDMTTs, AG (section 5.1.3) addresses the allocation of CFC tax under Art. 4.3.2(c) and "Main Entity" tax under Art. 4.3.2(a), but it does not address the allocation of "Hybrid Entity" tax under Art. 4.3.2(d). Accordingly, I have assumed that Art. 4.3.2(d) applies for the purposes of a QDMTT.

Do you agree?

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