Finance faces a looming first-quarter Pillar Two financial reporting deadline. Are you ready?

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The first Pillar Two deadlines are in sight. The new global minimum tax regime will be effective for tax years that start after December 30, 2023 in most participating countries—affecting interim and annual financial reporting.

As early as the first-quarter of 2024, entities must report an estimate of Pillar Two top-up taxes in their consolidated financial statements. This deadline is well before tax files its first GloBE information return.

While Pillar Two reporting may fundamentally be a tax compliance issue, its impact—if material—must be disclosed and reported in an organization’s consolidated financial statements. And the magnitude and rapidly approaching deadline of Pillar Two leaves little time for finance to understand its impact, gather the necessary information to meet the new financial reporting requirements and measure the interim tax exposure in the consolidated financial statements.

To meet these financial reporting obligations, finance must collaborate with tax to help them meet their looming deadline: in a recent PwC US survey of tax leaders, only 51% said assessing the potential impacts on their financial statements and cash flows were among their top Pillar Two priorities.

What’s required of finance teams under Pillar Two

Pillar Two places new demands on the broader finance team, including the CFO, accounting department and other professionals who are responsible for preparing their organization’s financial statements. The starting point for the computation of Pillar Two is the financial accounting net income or loss of a constituent entity, before any consolidation adjustments to eliminate intercompany transactions that are included in the consolidated financial statements of the ultimate parent entity (UPE).

Our Pillar Two Data Input Catalog (PDF) identifies more than 230 data points that MNEs need to track for each of its constituent entities. Many of these data points sit in the ERP system—which is typically managed by the finance department—as well as financial planning and analysis systems. But many other required data points sit outside these systems and are held by other departments, such as legal records of transactions, share issuances and payroll information.

Each quarter, the UPE must report an estimate of the top-up tax in the current tax provision recorded in its consolidated financial statements where Pillar Two legislation is both substantively enacted and effective. This is based on the financial results to date of the UPE and its constituent entities and the average effective tax rate expected to be applicable for the year in each jurisdiction, including the effects of the top-up tax or qualified domestic minimum top-up tax (QDMTT). At year-end, the top-up tax must also be trued-up to reflect final financial results and updated estimates of the actual tax rates applicable for the full year.

While input from tax specialists will be essential to understand whether and where top-up taxes might apply, finance is ultimately responsible for ensuring the process and controls around the estimation exercise are adequate for financial reporting.

Because the effective tax rate under Pillar Two is calculated by jurisdiction, organizations may find they require financial information in a form that’s never been needed before and isn’t contained in its consolidated financial statements. For example, items that are offset or eliminated upon consolidation or, conversely, only recorded upon consolidation and not entered in an individual constituent entity’s financial statements can affect the amount of tax owing as well as the jurisdiction to which it’s owed.

Safe harbour measures provide a false sense of security

People at a boardroom table

Pillar Two includes two safe harbour measures: (i) a transitional country-by-country reporting (CbCR) safe harbour and (ii) a QDMTT safe harbour.

These safe harbours reduce compliance costs, administrative burdens and difficulties in collecting data. If the conditions of these safe harbours are met, the top-up tax computed under the GloBE rules is deemed to be nil.

It’s important to fully understand these rules. Some organizations have been caught off-guard by the nuances of these measures. For example, these safe harbours may not provide relief from the QDMTT for organizations operating in jurisdictions that have adopted a QDMTT. What does this mean? While the top-up tax under the GloBE rules may be deemed to be nil, the QDMTT continues to form part of the top-up tax in the current tax provision. 

Further, the transitional CbCR safe harbour uses information from the qualified CbC report and the qualified financial statements as proxies for determining whether a jurisdiction has an effective tax rate (ETR) above the minimum rate (the ETR test). They’re also used to determine income and revenue that’s below the de minimis threshold (the de minimis test) or if there are no excess profits after excluding routine profits (the routine profits test). Timing is an important consideration: in many participating countries, the deadline for filing the CbC report is 12 months after the fiscal year has ended. Finance will need to assess what underlying information or provisional reporting is available to support an assertion that one of the transitional CbCR safe harbour tests will be met for financial reporting purposes.

Materiality is, of course, always a factor when determining the extent of disclosures and measurements in financial reporting. And management may believe the top-up tax to be recorded in the consolidated financial statements is immaterial. But establishing this position still requires effort. For example, Canada may be assumed to be a high-tax jurisdiction, yet may not be due to various credits, green energy incentives and capital gains exemption rules.

How finance can prepare for Pillar Two

Charts on a screen

The release of first-quarter financial statements in 2024 is one of the most important Pillar Two deadlines facing finance in affected countries. But it’s not the only one, or even the first.

We’re still waiting for Pillar Two legislation in Canada and other countries to be fully or substantively enacted. But, to the extent legislation is substantively enacted prior to the release of the financial statements, companies will need to disclose under IFRS their known or reasonably estimable exposure to Pillar Two taxes in their fiscal 2023 annual consolidated financial statements.

Your stakeholders will expect your annual consolidated financial statements (and other corporate reporting, such as management’s discussion and analysis) to indicate what they’ll see in your interim financial statements in 2024. By pointing them in the right direction, you can make sure your estimates don’t come as a surprise.

This adds even more urgency to become Pillar Two ready. Here’s how finance can prepare:

Understand the relevant legislation affecting your company

Domestic Pillar Two legislation is being enacted at different times in different countries. Our Pillar Two Country Tracker can help you monitor the status of Pillar Two implementation in different countries and regions. Finance needs to determine the scale, scope and timelines of the Pillar Two requirements affecting their organization in various jurisdictions in order to disclose the necessary information in their 2023 financial statements. Tax may have started to compile this information and can be a helpful resource.

Make sure your organization has a coordinated and appropriately timed plan

In some cases, different subsidiaries may have different assumptions about which entity is responsible for performing their Pillar Two calculations. It’s important to make sure that an organization has a coordinated companywide transformation strategy to prepare for Pillar Two. An integrated approach to data collection and enabling technology systems will make reporting more efficient and help meet other requirements, such as the new Corporate Sustainability Reporting Directive (CSRD) in Europe. Finance won’t necessarily own the strategy. But it needs to be involved and verify that the timelines line up with their financial reporting deadlines.

Secure support from the owners of consolidated workbooks

Many organizations will find they need additional data beyond what’s contained in the head office’s consolidation workbook, which may contain consolidations of consolidations. In these cases, the necessary Pillar Two data may reside in a subsidiary’s consolidation workbook. Given the imminent reporting deadlines, it’s important that the owners of these workbooks understand in advance of receiving data requests why this information is required and why it should be prioritized. The CFO can play a valuable role by setting the right tone from the top.

Create a forecasting process that can accommodate business changes

The Pillar Two top-up tax estimate contained in your quarterly 2024 financial statements will need to be updated for each quarter in 2024—all before tax files its first GloBE information return. The process used to prepare your top-up tax estimates needs to capture fluctuations in forecasted earnings as well as business changes such as M&A deals.

Model your Pillar Two top-up tax using 2022 financials

Organizations can create a valuable reference point by using 2022 year-end financial information to calculate their hypothetical top-up tax for that year. Further, organizations can use the 2022 year-end financial statements and the 2022 qualified CbC report to determine whether any of the transitional CbCR safe harbour tests are met. This information can be a powerful addition to your 2023 estimable exposure in your upcoming year-end 2023 financial statements. It’s also helpful for understanding your forecasted first-quarter 2024 estimate and lets you see if your top-up tax owing has increased or decreased.

Cementing a new level of collaboration

Pillar Two will require greater collaboration between finance and tax. Finance will need to gather some of the information required for this new layer of tax compliance. At the same time, tax will need to help finance obtain the information needed for its financial disclosures and financial reporting.

In many cases, this level of collaboration extends beyond data sharing. Finance and tax will need to work together to analyze the data, understand why items were booked a certain way and find the root sources of the data.

If finance understands their pivotal role, they can help estimate the first-quarter 2024 top-up tax with greater accuracy and help their wider organization prepare for Pillar Two with confidence.

Are you ready to estimate your first-quarter top-up tax?

Schedule a workshop with our team.

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Ken Buttenham

Ken Buttenham

National International Tax Leader, PwC Canada

Tel: +1 416 509 5203

Lucy Durocher

Lucy Durocher

Partner, Corporate Reporting Services, PwC Canada

Kara Ann Selby

Kara Ann Selby

Risk and Regulatory Platform Leader, Partner, International Tax, PwC Canada