Base erosion and profit shifting (BEPS) is a term used to describe tax planning strategies employed by multinational enterprises (MNEs) that take advantage of gaps and inconsistencies in tax regulations to avoid paying taxes. Developing countries, which heavily rely on corporate income tax, are disproportionately affected by BEPS. These practices result in annual revenue losses of $USD 100-240 billion for countries. To address tax avoidance, improve the coherence of international tax rules, and establish a more transparent tax environment, over 135 countries and jurisdictions are collaborating within the OECD/G20 Inclusive Framework on BEPS, working together to implement 15 measures.
The OECD/G20 Base Erosion and Profit Shifting (BEPS) Project
Since 2013, there have been concerted efforts to enhance international cooperation in tax matters, combat harmful practices, and prevent tax avoidance by multinational enterprises (MNEs). The Organization for Economic Co-operation and Development (OECD) was tasked by the G20 to study and address the issue of Base Erosion and Profit Shifting (BEPS) by MNEs. As a result, the OECD released a study and action plan in 2013. BEPS refers to tax planning strategies that exploit gaps and inconsistencies in tax rules to artificially move profits to locations with low or no tax rates and minimal economic activity. To ensure consistent and coordinated implementation of the BEPS recommendations and to promote inclusivity, the OECD/G20 expanded the BEPS discussion to involve more than 140 jurisdictions through the Inclusive Framework (IF) on BEPS platform. Singapore has actively participated in these international discussions within the IF. As one of the first non-G20 and non-OECD countries to join the IF, Singapore, along with more than 135 member jurisdictions, agreed to the Two-Pillar solution in October 2021 to address the tax challenges arising from the digitalization of the economy, commonly known as BEPS 2.0.
The two Pillars under BEPS 2.0
Currently, jurisdictions have the right to fully tax multinational enterprises (MNEs) on profits derived from their activities, such as manufacturing and strategic decision-making. The profits are allocated to the jurisdiction where the economic activities generating the profits take place. Transfer pricing rules are also imposed on cross-border transactions between related entities in MNE groups to prevent tax planning. Many jurisdictions, including Singapore, have established robust transfer pricing rules. Pillar 1 aims to redistribute profits and corresponding taxes from the jurisdictions where economic activities are conducted to the jurisdictions where markets (i.e., customers) are located, regardless of how profits are currently allocated based on transfer pricing rules. Under Pillar 1, affected MNE groups are required to allocate 25% of their profits (exceeding 10% of global revenue) to the jurisdictions where the markets are situated. Governments are currently discussing the criteria for determining which jurisdictions will surrender their profits and the amount to be surrendered. Some jurisdictions may have to relinquish taxing rights over more than 25% of their profits. Pillar 2 introduces a minimum Effective Tax Rate (ETR) of 15% for affected MNE groups through the Global Anti-Base Erosion (GloBE) Model Rules. If an affected MNE has an ETR below 15% in Singapore at the group level, other jurisdictions can collect the difference, up to 15%. Pillar 2 also includes a Subject-to-Tax Rule (STTR). STTR allows jurisdiction A to impose an additional tax, up to 9%, on certain payments (e.g., interest and royalty) made by an entity in A to related entities in jurisdiction B if the payment is taxed at less than 9% in B.
What BEPS 2.0 means for Singapore
Under Pillar 1, Singapore will need to relinquish some taxing rights over profits generated from economic activities conducted within its borders. However, due to Singapore’s small domestic market, the benefits received in return will be minimal. In response to the GloBE rules under Pillar 2, Singapore is exploring the implementation of a Minimum Effective Tax Rate (METR) top-up tax on affected MNE groups. This will increase the effective tax rate to 15% for the groups operating in Singapore. Assessing the potential impact of both pillars of BEPS 2.0 (including METR) on revenue collections is challenging due to various factors:
- Pillar 1 will result in a revenue loss for Singapore.
- METR may lead to higher tax revenue if Singapore can retain all the economic activities and accompanying profits currently conducted in the country. However, this is not guaranteed as companies may review their existing and future investments.
- Ongoing international negotiations on key implementation rules, such as the determination of which jurisdictions surrender profits and taxes under Pillar 1, and how the two Pillars interact, will affect the revenue impact of BEPS 2.0 on Singapore.
- Some data points, such as the group effective tax rate based on the proposed revised international rules, are not currently collected under Singapore’s corporate tax system. The absence of such data makes it difficult to accurately estimate the revenue impact.
The final impact of BEPS 2.0, including METR, on Singapore’s tax revenue depends on how other governments and companies respond to the changes in international tax rules. Any additional corporate tax revenue generated from BEPS 2.0 will need to be reinvested to maintain and enhance Singapore’s competitiveness. While BEPS 2.0 may reduce opportunities for tax competition among countries, competition for investment will remain. Therefore, Singapore will need to strengthen non-tax factors and reinvest to remain competitive in a post-BEPS 2.0 world. This approach will enable Singapore to thrive, achieve steady economic growth, and create quality jobs for its citizens.