In Brief
On 16 July 2024, the Turkish government submitted draft legislation to amend the tax laws which will- among other things- introduce into Turkish legislation Pillar Two rules which are in line with the EU Minimum Tax Directive1 and the Pillar Two Model Rules2 as approved by OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (BEPS).
Very briefly, Pillar Two rules have been designed to ensure large multinational enterprises (MNEs) pay a minimum level of 15% tax on the income arising in each jurisdiction where they operate. It does so by imposing a top-up tax on profits arising in a jurisdiction whenever the effective tax rate, determined on a jurisdictional basis, is below the minimum rate.
In detail
Some key features of the Turkish Pillar Two rules, as proposed under the current draft, are as follows:
Scope: Which entities are subject to the Pillar 2 rules?
Similar to the OECD Model Rules and the Pillar Two Directive, the Turkish Pillar 2 legislation will apply to constituent entities that are members of a multinational enterprise group that has annual revenue of Turkish equivalent of EUR 750 million or more in the consolidated financial statements of the ultimate parent company in at least two of the four fiscal years immediately preceding the tested fiscal year.
Operating mechanics: How do the rules operate?
The amount of top-up tax payable is determined through a system, consisting of two interlocked rules- the income inclusion rule (IIR) and the undertaxed profits rule (UTPR). The draft Turkish legislation also makes use of the option to introduce a qualified domestic minimum top-up tax (QDMTT), allowing Türkiye to collect top-up tax on the profits of a low-taxed Turkish entity that is part of an in-scope group.
- The IIR is the primary rule that is applied by a parent entity within the in-scope MNE group. Turkish parent companies of an MNE group must pay an IIR top-up tax calculated according to their allocable share in every entity of the group that is resident in a low-tax jurisdiction. If the entity has been subject to a qualifying QDMTT in its country of location, the amount of QDMTT paid will reduce the amount of IIR top-up tax at the level of the Turkish parent company.
- The UTPR acts a backstop to the IIR. Where the ultimate parent of an in-scope group is in a low-taxed third country jurisdiction or in a third country jurisdiction that does not apply a qualified IIR, the legislation foresees that a Turkish based constituent entity belonging the same group will be subject to an additional tax equal to UTPR top-up tax amount allocated to Türkiye for the fiscal year.
- A Turkish entity of an in-scope group that has an effective tax rate (ETR) of less than 15% in a given year will be subject to QDMTT, meaning that it will have to pay top-up tax in Turkey to achieve the required minimum 15% ETR, rather than the additional tax being collected through IIR at the parent entity level or through the UTPR at the level of other group entities.
In line with the EU Minimum Tax Directive, the draft legislation foresees a substance-based income exclusion amount, calculated as 5% on tangible assets and payroll costs. (For 2024, these rates will apply as 9.8% and 7.8% respectively)
As per the current draft of the proposal, the IIR and the QDMTT will be applicable for fiscal years starting from 1 January 2024, while the UTPR will apply for fiscal years starting from 1 January 2025.
Calculation of the effective tax rate and the top-up tax
The top-up tax is triggered where the effective tax rate is less than the minimum 15% tax rate. The effective tax rate of MNE group is calculated for each financial year and for each jurisdiction. It is calculated as adjusted covered taxes of the constituent entities in that jurisdiction divided by their net qualifying income.
Adjusted covered taxes include the taxes recorded in the financial accounts of a constituent entity with respect to its income or profits, adjusted with a number of elements including deferred tax.
The qualifying income or loss of a constituent entity is determined based on the accounting standard used in preparing the consolidated financial statements of the ultimate parent entity. Numerous adjustments will have to be made to arrive to the qualifying income or loss.
The top-up tax percentage is calculated as the difference between the effective tax rate and the minimum tax rate of 15%.
For the determination of the top-up tax, the top up tax percentage is applied to the adjusted qualifying net income, reduced by the substance-based income exclusion.
Safe Harbors
The draft legislation also contains safe harbors aiming to reduce the compliance burden on inscope taxpayers during the initial years of the application of the rules by avoiding detailed calculations for countries with low risks of significant top-up-tax being due.
For a jurisdiction to qualify for the transitional safe harbor, one of the three tests must be met:
- revenue and income must be below the de minimis thresholds (revenue: € 10 million, income: €1 million)
- the ETR must equal or exceed an agreed rate or
- no excess profits may remain after excluding the routine profits
The draft legislation also introduces a permanent safe harbor rule that can reduce to zero the top-up tax for a specific jurisdiction. The Turkish President is authorized to determine the safe harbor jurisdictions and to determine the requirements related to their designation; the Ministry of Treasury and Finance is authorized to determine the procedures and principles for implementation.
In addition, the draft legislation provides an exclusion for up to five years, if (i) the MNE group has constituent entities in no more than six jurisdictions and if (ii) the net book value does not exceed the Turkish Lira equivalent of Euro 50 million for the tangible assets of all of the MNE group’s constituent entities located in all jurisdictions, other than the reference jurisdiction.
Administration and compliance
Turkish based constituent entities to which IIR, UTPR top-up tax are allocated in accordance with the provisions of the draft legislation must file a tax return stating and paying the amount of top-up tax, after 15 months following the end of fiscal year. However, for the first year the deadline is extended to 18 months following the end of the fiscal year. QDMMT, on the other hand, should be declared and paid after 12 months following the end of fiscal year.
Next steps
The draft legislation will be subject to the legislative approval procedure before the Turkish Parliament.
While the Turkish Pillar Two draft legislation runs through the legislative process, it is important for taxpayers to evaluate the potential impact of these new rules on their business structures and internal processes. In this regard, the MNE groups should address both the technical impact of the rules as well as the organization’s data and systems readiness to comply with and report on the rules.
- Council Directive (EU) 2022/2523 of 14 December 2022 on ensuring a global minimum level of taxation for multinational enterprise groups and large-scale domestic groups in the European Union
- OECD (2021) Tax Challenges Arising from the Digitalization of the Economy - Global Anti-Base Erosion Model Rules (Pillar Two): Inclusive Framework on BEPS, OECD
