Key updates in latest OECD guidance package

DTL recapture

The DTL recapture rule ensures that DTLs included in the adjusted covered taxes for a fiscal year are recaptured if they do not reverse within five subsequent fiscal years. This rule allows a constituent entity to recognize and count a DTL as an increase in adjusted covered taxes in the year it accrues. If the DTL is not reversed within five years, the constituent entity must then recalculate and treat the DTL as a decrease to covered taxes in the year it is recaptured. This rule aims to maintain the integrity of the GloBE rules by preventing the artificial inflation of adjusted covered taxes through DTLs that have a long-term or indefinite life.

The principal purpose of the June guidance is to provide a mechanism to aggregate DTLs under the GloBE DTL recapture rules, with specific exclusions for certain types of general ledger (GL) accounts. While companies can aggregate short and long-term DTLs on an aggregate DTL category basis, they must exclude GL accounts that generate deferred tax assets (DTAs) and certain types of items that require separate tracking. For example, DTL balances related to unamortizable intangible assets, amortizable intangible assets with an accounting life of more than five years, and related-party receivables and payables, must be tracked separately. For these assets, the guidance provides that certain amounts can be aggregated up to the GL account level but does not allow for aggregation of GL accounts.

Divergences between GloBE and accounting carrying values

The June 2024 guidance expands on the February 2023 Administrative Guidance with respect to divergences between GloBE and accounting carrying values of assets and liabilities, which are often driven by differences in the treatment of intercompany transactions under accounting standards. These differences will require taxpayers to maintain a new set of GloBE books to track GloBE basis and hypothetical financial accounting recovery periods.

This is particularly relevant for U.S. GAAP taxpayers, for whom common control transactions are generally recognized at cost—as opposed to IFRS where— gains or losses are generally recorded on the seller’s (pre-consolidation) financial statements based on the difference between carrying value and consideration received.  The guidance provides additional clarifications on how these transactions should be treated for GloBE purposes and may require some in-scope multinational enterprises (MNEs) to start preparing a full set of GloBE accounts (as well as existing financial and tax accounts) because of the new complexities.

Allocation of cross-border current taxes

This section of the OECD guidance provides an overview of allocating current taxes of a parent entity to another constituent entity when the domestic tax regime permits cross-crediting of taxes. The OECD introduces a four-step methodology to determine how much of the parent entity’s tax expense arises from the GloBE income of each constituent entity, using hypothetical tax calculations to determine amounts payable without the inclusion of foreign-source income.

The guidance clarifies how foreign tax credit (FTC) rules impact tax allocation to each constituent entity, with the key headline being that any additional tax suffered in the parent entity due to FTC limitation should be included in the covered tax figure of the parent entity itself (as opposed to another constituent entity). The guidance also clarifies that the treatment of losses from permanent establishments (PE) should be consistent with the domestic law of the parent entity, allowing offsets across different PEs within the group. 

The approach outlined in the June 2024 guidance does not impact the transitional rules that apply to blended controlled foreign corporation (CFC) tax regimes (e.g., global intangible low-taxed income (GILTI)) for fiscal years that begin on or before Dec. 31, 2025. In the context of a U.S.-headquartered group, taxes that arise from GILTI will still be allocated to the low-taxed foreign jurisdiction under the blended CFC tax regime rules. The guidance also does not address whether the approach described above will apply to blended CFC tax regimes after the transitional rule expires.

Allocation of cross-border deferred taxes

The OECD published separate guidance specific to allocating cross-border deferred tax, including additional detail on the “Substitute Loss Carry-Forward DTA” concept introduced as part of the February 2023 guidance. The “Substitute Loss Carry-Forward DTA” guidance extends the application of this concept from situations where a parent entity has a domestic tax loss in the same year as foreign CFC income to other PE/hybrid/reverse hybrid structures. 

Similar to the current tax rules discussed above, the additional guidance should be applied to CFC tax regimes, other than blended CFC tax regimes. The guidance introduces a new five-step process to determine cross-border deferred tax allocations, which includes bucketing each deferred tax item in the parent entity into three separate categories (non-GloBE income, GloBE income, and passive GloBE income). Each item is then calculated and allocated separately to each constituent entity based on an allocation key. 

Allocation of profits and taxes in structures including flow-through entities

The guidance provides useful clarification in allocating profit of a flow-through entity to match the tax with the income previously subject to tax.

For example, it clarifies that the owner for the purposes of the flow-through entity rules will be the next owner up the ownership chain that is not a flow-through entity, or where there is no such entity, a flow-through UPE (referred to as the “reference entity” in the guidance). This means that the treatment of an entity as a tax transparent entity or reverse hybrid entity will depend on how the tax law of the reference entity’s jurisdiction treats the entity.

In other words, the jurisdiction’s laws, including tax laws, that affirmatively provide for the result that the entity’s income, expenditure, profit or loss is considered that of the owner for purposes of a covered tax, as opposed to purely based on the legal form specified in the organization or other legal documents. This ensures that profits and taxes are allocated in a manner that reflects the true economic activity and benefits within these structures.

Treatment of securitization vehicles

According to the guidance, special purpose vehicles (SPVs) used in securitization transactions are generally structured so that the SPV cannot make more than a negligible profit from the arrangement. However, arrangements may have material fair value movements, for example in relation to hedging arrangements, that can lead to significant book profits or losses in a given year. The updated guidance aims to ensure that income derived from securitization activities is appropriately taxed in line with the economic reality of the transactions by offering special rules for QDMTTs, allowing exclusions from top-up taxes under the undertaxed profits rule (UTPR), and other targeted relief.