Global minimum tax - what’s beyond the horizon?

THE dawn of global minimum tax (also known as Pillar Two top-up tax) in 2024 may mean placing a floor on tax competition, but it does not change the fact that competition for foreign direct investments (FDIs) remains as intense as ever.

To recap, the global minimum tax is an initiative of the OECD/G20 Inclusive Framework, comprising about 140 jurisdictions, to curb base erosion and profit shifting arising from a diverse international tax landscape. It does so by calling for the introduction of a top-up tax that would ensure that large multinational enterprises (MNEs) – those with consolidated annual revenues of 750 million euros (S$1 billion) or more – pay tax at an effective rate of at least 15 per cent on profits earned in the jurisdictions in which they operate. This tax is now in force in over 20 jurisdictions, with more (including Singapore) joining this global movement over the next two years.

With this top-up tax taking effect in the home countries of MNEs, any benefit they may derive from tax incentives – historically an integral part of Singapore’s fiscal toolkit in attracting FDI – will be negated as taxes forgone will be collected elsewhere.

According to the Economic Development Board, Singapore attracted S$12.7 billion in fixed asset investment commitments in 2023, which is more than its target but less than the figure for the prior year. Given the uncertain global geopolitics and trade tensions, it is ever more important to preserve and enhance Singapore’s competitiveness. This is especially the case since the global minimum tax has rendered tax incentives less effective in offsetting the relatively high costs for businesses operating here.

Singapore must consider other avenues to continue positioning itself as the preferred FDI location. One way is to introduce a Qualified Refundable Tax Credit (QRTC) scheme that is designed to give Singapore an edge in a Pillar Two world. Such a scheme will complement existing grants, thereby adding scale and variety to Singapore’s fiscal toolkit.

Why QRTCs?

QRTCs are less affected by the Pillar Two rules. Unlike tax incentives that reduce tax expenses and thus lower the effective tax rate (ETR), QTRCs increase the claimant’s income (the denominator of the ETR formula), resulting in a smaller drop in the ETR. The top-up tax, calculated as the difference between the minimum rate of 15 per cent and the ETR, will be smaller. In a Pillar Two world, QRTCs operate as a viable alternative to tax incentives and as a tool to help correct market misallocations of resources – for example, underinvestments in research and development (R&D) or in climate sustainability.

Use cases: Reflecting the relentless competition for FDI, many jurisdictions have either amended their tax credit rules to include a QRTC scheme or are considering doing so. Singapore can take reference from some of these markets when it comes to introducing, administering and leveraging QRTCs to encourage businesses to align their efforts with the country’s economic objectives.

On introducing the scheme, Ireland’s R&D tax credit was amended in 2023 to include the QRTC definition. This tax credit is calculated based on a certain percentage of qualifying R&D expenditure and is paid in instalments over three years. A claimant can choose to treat part or all of each instalment as an overpayment of tax and use it to offset tax liabilities due and payable (including value added tax and employment taxes) instead of having it paid out in cash. In addition, the company may surrender a portion of their R&D credit to qualifying employees to reduce their ETR.

A notable example on how to administer QRTCs is Norway’s SkatteFunn R&D tax credit, pursuant to which businesses with R&D projects can apply for a deduction of a certain percentage of costs incurred (subject to a cap). If they do not have taxable income for the year in question, they will receive a cash refund the following year. This regime is managed under a dual administration model whereby The Research Council of Norway is responsible for the approval of the R&D content and The Norwegian Tax Administration for assessing and granting the tax credit.

Renewable energy infrastructure or sustainable manufacturing practices could also be the subject of tax credits. For instance, certain schemes under the Inflation Reduction Act in the United States, which provide credits for qualifying investments in wind, solar, energy storage and other renewable energy projects (subject to meeting certain hiring conditions), may potentially be considered for QRTCs. These incentives not only provide tax savings to improve returns on investments, but also help align businesses’ commitment to sustainability and responsible behaviour.

Making QRTCs work for Singapore

Certainty of outcomes is important to investors. Hence, any tax credit scheme must ensure certainty through a streamlined administration to ease cost of compliance by businesses.

Akin to the Norwegian example cited, Singapore currently has several incentives managed under a dual administration model, where the approval and qualifying parameters (for example, level of fixed asset investments, local business spending and headcount) are administered by economic agencies, and the amount of tax benefit (that is, concessionary income) is assessed by the Inland Revenue Authority of Singapore. If Singapore were to introduce QRTC schemes, applying this dual administration model – which it has successfully deployed over the years – can give investors upfront certainty on the qualifying parameters. This will also sidestep the need to deploy tax administration resources for assessing scientific or technical criteria required to qualify for such schemes.

Global minimum tax is a reality and so is competition for FDI. Operating in a Pillar Two world will require adjustments by countries and businesses alike. Singapore has had a long history of successfully adapting itself and staying relevant in a changing world. By expanding its fiscal toolkit through QRTCs and providing certainty through a streamlined administration to complement its traditional areas of strength, such as infrastructure and rule of law, Singapore can reinvent its appeal to MNEs, which are an integral part of its economy.

The writer is a tax partner at PwC Singapore.