GloBE Rules Series

ITQ G-

123

January 24, 2025

Question

ACo, a company located in jurisdiction A, is a Constituent Entity in an MNE Group which is “within scope” of the GloBE rules. ACo is the only Constituent Entity located in jurisdiction A.

ACo owns 100% of the shares in BCo, a company located in jurisdiction B. BCo is treated as transparent for jurisdiction A corporate income tax (CIT) purposes.

The CIT rate in jurisdiction A is 17.5%, and the CIT rate in jurisdiction B is 20%. In both jurisdictions, the CIT base exactly matches GloBE Income (except for the jurisdiction A treatment of BCo as transparent).

The jurisdiction A CIT law imposes tax on all foreign source income, and it also provides foreign tax credits (FTCs). For FTC purposes, all foreign source income is placed in the same “basket”, and no expenses are allocated against foreign source income.

In year 1:

ACo incurs a domestic source loss (i.e., excluding foreign source income) of 100.
BCo derives taxable income of 100, on which BCo pays 20 of jurisdiction B tax.
ACo derives 40 of royalty income from jurisdiction C. 10% (i.e., 4) of jurisdiction C withholding tax is deducted.

The jurisdiction A CIT law requires ACo’s domestic source loss to be offset against its foreign source income, before the application of FTCs. However, it allows unused FTCs to be carried forward, to be used against future years’ tax on domestic source income (which is recharacterized as foreign source income, for that purpose).

In year 2, ACo derives taxable income of 100. It derives no foreign source income in that year.

Based on this limited information, what is ACo’s Top-up Tax for year 1 and year 2?

Answer

Threshold issue: Paras. 80 to 82.7 of Comm to Art. 4.4.1 appear to limit the Substitute Loss Carry-forward DTA (SLCDTA) to FTCs on foreign income of CFCs, foreign branches, PEs, or foreign subsidiaries treated as Hybrid Entities or Reverse Hybrid Entities under the GloBE rules. Does this mean that the SLCDTA excludes the FTCs related to ACo’s royalties? I have assumed “yes”.

That raises a secondary issue: how to determine which carried forward FTCs relate to BCo (Hybrid Entity) and which relate to royalties. I have used a pro rata approach.

Year 1:

1. CIT:

Taxable income = 40 (i.e., 100 + 40 – 100).

CIT (before FTCs) = 40 x 17.5% = 7.

FTCs = 20 + 4 = 24.

CIT (after FTCs) = 0.

Excess FTCs = 24 – 7 = 17.

On pro rata basis, the 17 of excess FTCs represent 14.2 of FTCs related to BCo and 2.8 of FTCs related to royalties.

2. GloBE rules:

GloBE Income = 40 – 100 = (60).

Current tax expense = 0.

SLCDTA recognised: [Lesser of (i) 14.2 and (ii) 17.5], recast at 15% = 12.2 (para. 82.3, Comm on Art. 4.4.1).

Adjusted Covered Taxes: (12.2).

No ETR, as jurisdiction A does not have Net GloBE Income: Art. 5.1.1.

Expected Adjusted Covered Taxes Amount (Art. 4.1.5) = (60) x 15% = (9).

Top-up Tax under Art. 4.1.5 = (12.2) – (9) = 3.2.

Year 2:

1. CIT:

Taxable income = 100.

Recast to foreign source income = 97.1.

CIT (before FTCs) = 17.5.

CIT (after FTCs) = 0.5.

2. GloBE rules:

GloBE Income = 100.

Current tax expense = 0.5.

Deferred tax expense (on reversal of SLCDTA): 12.2

Adjusted Covered Taxes: 12.7.

ETR = 12.7%

Top-up Tax = 100 x 2.3% = 2.3.

Do you agree?

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