The Israeli Ministry of Finance announced that it will implement a qualified domestic minimum tax (QDMTT) starting in 2026, as part of the OECD’s Pillar II international tax reform.
This is a plan to change the current corporate tax system, allowing countries to collect more taxes from international companies that sell products or services to their citizens. The program aims to update tax laws and allow them to deal with the digital economy and with companies that report their profits in countries that collect less tax than them, regardless of the countries where their profits are generated. The change will affect multinational technology companies, including Facebook, Apple, Amazon and Google.
Israeli Finance Minister Bezalel Smotrich said: “Israel’s joining the international standard that was formulated regarding the taxation of multinational corporations will help maintain the attractiveness of the Israeli tax system in the new global tax reality, and will ensure that taxes on domestic activity are prevented from leaking from Israel. Compliance with advanced international standards is a necessary condition for creating a free and global market economy that leads to growth and improves our quality of life. I am grateful to the officials of the Ministry of Finance and the Tax Authority, who worked in cooperation with industry, investors and other interested parties. As I have done since the beginning as Minister of Finance, I will continue to work to strengthen and improve the attractiveness of the State of Israel for investment in the field of innovation and high technology.”
Over the past decade, the OECD has been promoting the Base Erosion and Profit Shifting (BEPS) project to prevent base erosion and profit shifting by multinational corporations between countries, among other things by shifting activity to countries where the effective corporate tax rate is low. 140 countries participate in the project, including the State of Israel.
The OECD plan for taxing the digital economy is based on two levels: the first level (pillar 1) deals with the taxation of profits of international giants by countries to whose residents they provide services or products, when, according to the emerging scheme, it is possible to tax part of the profits of these giants in the countries where they operate, even if they do not have a physical presence in the country.
The second tier (Pillar 2) seeks to prevent tax schemes that aim to erode the tax base or shift profits to tax havens for multinational companies, and to put an end to the “race to the bottom” in setting tax rates. According to the preliminary plan, a minimum tax rate will be set for members of these companies. Pillar 2 will apply to multinational companies with an annual turnover of 750 million euros.
Under Pillar 2, participating countries are required to apply an effective corporate tax rate that will not be lower than the minimum effective tax rate of 15% (QDMTT). The country of residence of the company will have the first right to collect a tax at a rate of 15% on the revenues attributable to the company resident in that country, and this tax will not be collected by a country in which another company in the group is resident.
Minimum Tax Supplement
Participating countries will not be obliged to increase the corporate tax rate within their jurisdiction to the minimum tax rate, but parent companies, or other companies in the group, will be obliged to supplement the tax to the minimum tax rate with the tax authority of their country of residence (IIR and UTPR).
In June 2021, Israel, through then-Finance Minister Avigdor Lieberman, announced that Israel would join the Digital Economy Tax Plan and its two-pillar framework. Under OECD rules, any country may choose the scope and manner of adopting the Pillar 2 mechanisms into its domestic law, including in part. Several countries around the world have already begun to fully or partially adopt the Pillar 2 mechanism earlier this year.
Smotrich’s decision to adopt the second pillar mechanism starting in 2026 is based on the recommendation of the Finance Ministry’s chief economist responsible for state revenues, the head of the budget division, and the head of the Israel Tax Authority.
The Finance Ministry said that the decision was made, among other things, to prevent companies resident in Israel from paying taxes in foreign countries on income generated in Israel. At the same time, it was recommended not to adopt an additional mechanism for collecting taxes in Israel at this stage on the income of companies in the group that are not residents of Israel (IIR and UTPR). This issue will be examined again after the period of implementation of the QDMTT mechanism in Israel has passed.
A flat tax agreement is a huge change for small economies. For many years, some of these economies have served as tax havens for global corporations, offering them low or no tax rates.
This also represents a major change for Israel, where some multinationals enjoy very low tax rates, as low as 6%, under capital investment incentive laws. If the plan is adopted, companies like Intel, which are taxed at rates below 10% for setting up factories in remote areas, will have to pay a lower tax rate (15%).
This article was published in Globes, Israeli Business News – en.globes.co.il – on July 28, 2024.
© Copyright Globes Publisher Itonut (1983) Ltd., 2024.