Article 4.4.1

69. Article 4.4.1 establishes the Total Deferred Tax Adjustment Amount for a Constituent Entity, which is an amount that is added to the Adjusted Covered Taxes of a Constituent Entity for a Fiscal Year under Article 4.1.1(b). The Total Deferred Tax Adjustment Amount adjusts the Covered Taxes of a Constituent Entity to take certain deferred tax assets and liabilities into account in order to address the impact of temporary differences.

70. The starting point for the Total Deferred Tax Adjustment Amount is the amount of deferred tax expense accrued in the financial accounts of a Constituent Entity if the applicable tax rate is below the Minimum Rate or, in any other case, such deferred tax expense recast at the Minimum Rate. Deferred tax expense for the Fiscal Year is comprised of the net movement in deferred tax assets and liabilities between the beginning and end of the Fiscal Year. When established, deferred tax assets are recorded as negative tax expense (i.e., income tax benefit) whereas deferred tax liabilities are recorded as tax expense. Note that the recast of deferred tax expense may either be performed on an item-by-item basis or in the aggregate for all items recorded at the same rate, as the result should remain unchanged. When a deferred tax asset or deferred tax liability reverses it will reverse at the same amount and rate at which it has been recorded. A reversal of a deferred tax liability is negative deferred tax expense, whereas the reversal of a deferred tax asset equates to deferred tax expense. The applicable tax rate is the tax rate at which the deferred tax item is recorded. For example, if a deferred tax liability of 20 is recorded with respect to income of 100, the applicable tax rate is 20% (i.e., the tax imposed on an item of income divided by that item of income). This rate is higher than the Minimum Rate and would thus be recast at the Minimum Rate. For example, if the CIT rate in Country Z in the example in the introduction to the Article 4.4 Commentary was 30%, then the rules in Article 4.4.1 would still only recognise a deferred tax liability of 12 (i.e. 80 of additional income multiplied by the 15% Minimum Rate) in the first Fiscal Year. When such deferred tax liability reverses, the amount of the reversal will be 12.

71. To the extent deferred tax assets exceed deferred tax liabilities, deferred tax expense will be negative (i.e., an asset in lieu of a liability). This amount is typically accrued with respect to the applicable domestic tax rate (i.e., the tax rate in a jurisdiction which applies to the item of income with respect to which the deferred tax item is recorded) in a jurisdiction in order to adjust for timing differences between financial accounting recognition and domestic tax recognition. In order to use the accounts to adjust for timing differences under the GloBE Rules, the deferred tax assets and liabilities must be recast with reference to the Minimum Rate to the extent they have been recorded at a rate in excess of the Minimum Rate.

71.1 For the purposes of Article 4.4.1, references to the deferred tax expense accrued in the financial accounts of a Constituent Entity must be interpreted as the deferred tax expense accrued in the Financial Accounting Net Income or Loss for that Constituent Entity in line with Article 4.1.1 and the principles of Article 3.1.2. In the case of income and expense attributable to a Constituent Entity that are reflected only in the consolidated financial accounts, Article 3.1.2 requires tracing of those items of income and expense to the relevant Constituent Entity. Similarly deferred tax expenses recorded in the Constituent Entity’s financial accounts and any deferred tax expenses in respect of that Constituent Entity recorded exclusively in the MNE Group’s consolidated financial accounts shall be included in the calculation of the Total Deferred Tax Adjustment Amount for that Constituent Entity and must be taken into account in computing the Adjusted Covered Taxes of that Constituent Entity. This principle applies also in the case of a Constituent Entity that computes its Financial Accounting Net Income or Loss pursuant to Article 3.1.3.

71.2 If the individual financial accounts of the Constituent Entity do not contain its deferred tax expenses in accordance with the Acceptable Financial Accounting Standard used to prepare its financial accounts, the deferred tax expenses recorded in the MNE Group’s consolidated financial accounts with respect to the Constituent Entity, other than those attributable to purchase accounting or excluded items of income or expenses, are included in the calculation of the Total Deferred Tax Adjustment Amount for that Constituent Entity and must be taken into account in computing the Adjusted Covered Taxes of that Constituent Entity.

71.3 The numerator (Adjusted Covered Taxes) and denominator (GloBE Income or Loss) of the GloBE ETR computation should be determined consistently using the same accounting standard. The deferred tax expenses taken into account under this principle are those attributable to timing differences between the accounting standard used to determine the GloBE Income or Loss and the local taxable income and any deferred tax expense in respect of a Constituent Entity shall only be taken into account under this principle to the extent such expense relates to amounts included in the GloBE Income or Loss computation.

Paragraph (a)

72. Paragraph (a) of Article 4.4.1 excludes from the Total Deferred Tax Adjustment Amount, the amount of deferred tax expense with respect to any items that are excluded from the computation of GloBE Income or Loss under Chapter 3. This paragraph operates to prevent taxes associated with items not includible in the calculation of GloBE Income or Loss from being used to increase the amount of Adjusted Covered Taxes, resulting in an overstatement of the jurisdictional ETR.

73. For example, M Co is a Constituent Entity located in Country C which has a 15% corporate tax rate and subjects to tax Excluded Equity Gains and Losses. In a Fiscal Year, M Co incurs a GloBE Loss of (300) and an Excluded Equity Loss of (100). This Excluded Equity Loss is not included in the GloBE Income or Loss for Country C, because it is an Excluded Equity Loss. Accordingly, if there are no other differences between the GloBE base and the Country C tax base, the GloBE Loss for Country C is (300) whereas the domestic tax loss for Country C is (400). A deferred tax asset of 60 is established, however, for GloBE purposes only 45 may be taken into account since 15 of deferred tax asset relates to the Excluded Equity Loss of 100.

74. For example, if a Constituent Entity generates a deferred tax asset with respect to income excluded from the computation of GloBE Income or Loss, the deferred tax asset cannot subsequently be used to increase the amount of Adjusted Covered Taxes since the tax was paid with respect to an item outside of the GloBE base.

Paragraph (b)

75. Paragraph (b) operates to exclude deferred tax expense that relates to Disallowed Accruals and Unclaimed Accruals from the Total Deferred Tax Adjustment Amount. These terms are further explained in the Commentary on Article 4.4.6 and Article 4.4.7. The principal reason for excluding such amounts until paid is the speculative nature as to whether such amounts will be actually paid in the case of a Disallowed Accrual, or when the amounts will be paid in the case of an Unclaimed Accrual. The Commentary to Article 4.1.3 Paragraph (d) sets out the basis for the exclusion of current tax expense that relates to uncertain tax positions.

Paragraph (c)

76. To prevent distortions, paragraph (c) excludes valuation adjustments or accounting recognition adjustments with respect to deferred tax assets. When it is not probable that taxable profit will arise in the future against which all or part of a domestic tax loss can be applied, a valuation allowance or accounting recognition adjustment is generally required for financial accounting purposes. This valuation allowance or accounting recognition adjustment is applied to the extent of the loss that is not forecast to be usable. When an accounting recognition adjustment is recorded, the deferred tax asset is not recorded as a deferred tax asset in the financial statements to the extent it is not forecast to be usable in the future. When accounting rules require a valuation allowance, the deferred tax asset associated with the domestic tax loss is recorded in the financial statements as a deferred tax asset, however, an offsetting liability is recorded as a valuation allowance to the extent of the deferred tax asset that is not forecast to be usable. If financial forecasts change in a future period and it becomes probable that taxable profit will arise in current period or a future period, the accounting recognition adjustment or valuation allowance is reversed in the period in which the forecast changes.

77. Because the generation of deferred tax assets reduces Adjusted Covered Taxes, it is necessary to ensure that a deferred tax asset relating to a domestic tax loss is recorded in the same year as such loss for GloBE purposes. Accordingly, the rule in paragraph (c) ensures that the deferred tax asset is recorded for GloBE purposes in the same year as the economic loss which gave rise to such asset. Because valuation allowances and accounting recognition adjustments are disregarded under the GloBE Rules, a deferred tax asset will be recorded in respect of a domestic tax loss regardless of whether there is a forecast of probable future use of such attribute. As a result, a taxpayer may have recorded a GloBE deferred tax asset in respect of a carry-forward domestic tax loss that expires. A carry-forward loss cannot be used under domestic law when it is not available to offset domestic taxable income. The financial accounting rules treat deferred tax assets arising from domestic carry-forward losses as reversed when they are used to offset domestic taxable income. Therefore, such losses will not be available for use for GloBE purposes to the extent they cannot be used under domestic law. It follows that when a loss is not available for domestic law purposes, it cannot reverse under financial accounting rules, and therefore it will not be available for GloBE purposes to increase Adjusted Covered Taxes.

78. In Year 1 a Constituent Entity incurs a GloBE Loss of (100) and a deferred tax asset of (15) is generated, however, financial forecasts indicate that the tax loss will not be used in the future. Accordingly, the benefit of this tax loss is not recorded due to valuation adjustments or accounting recognition adjustments. However, this is disregarded for GloBE purposes and the deferred tax asset is generated. In Year 2, the forecast changes and the valuation adjustment or accounting recognition adjustment is reversed. This is also disregarded for GloBE purposes. In Year 3, GloBE Income of 100 is generated and the loss deferred tax asset is used and reversed. Absent the application of paragraph (c), in this example the deferred tax asset would have been generated in Year 2, reducing Adjusted Covered Taxes in a year in which there is no Net GloBE Income and Top-up Tax would have otherwise arisen under Article 4.1.5.

Paragraph (d)

79. Paragraph (d) excludes the amount of deferred tax expense that results from a change in the applicable domestic tax rate. This amount is excluded because amounts accrued in this respect are simply changes to amounts already accrued and should not be taken into account as additional Covered Taxes in a Fiscal Year. For example if additional deferred tax expense comes through the financial statements because a tax rate has increased from 10% to 15%, this amount should not be added to Covered Taxes since it does not relate to GloBE Income in the current Fiscal Year. Articles 4.6.2 and 4.6.3 provide rules that govern how domestic tax rate changes are taken into account for GloBE purposes to ensure appropriate credit is given for tax paid.

Paragraph (e)

80. Finally, paragraph (e) excludes the deferred tax benefit with respect to the generation of tax credits as well as the deferred tax expense with respect to the use of tax credits. A tax credit is an amount that taxpayers can subtract directly from taxes owed to a government. They differ from deductions, which reduce the amount of taxable income. Instead, they directly reduce the amount of tax owed. One example of a tax credit is an investment tax credit whereby the government provides the taxpayer that incurs certain qualifying expenditure with a reduction in a future tax payable that is calculated as a percentage of the expenditure incurred. A tax credit under paragraph (e) includes tax credits granted in a jurisdiction due to a tax liability imposed in another jurisdiction or imposed on profits distributed by another entity such as foreign tax credits. Tax credits are excluded from the Article 4.4.1 Total Deferred Tax Adjustment amount because the inclusion of such amounts could lead to distortions in GloBE results. Note that Qualified Refundable Tax Credits are addressed separately in Article 4.1.2.

81. Because the generation and use of tax credits is excluded from the Total Deferred Tax Adjustment Amount, any movement in deferred tax expense arising from the generation and use of such tax credits is excluded from the computation of Adjusted Covered Taxes. For example, when an excess foreign tax credit carry-forward is generated, the deferred tax asset associated with such carry-forward will not reduce Adjusted Covered Taxes since it is excluded from the Total Deferred Tax Adjustment Amount under Article 4.4.1(e). Conversely, when such foreign tax credit carry-forward is used in a subsequent Fiscal Year, the use of such deferred tax asset will not result in an increase to Adjusted Covered Taxes for the same reason. This results in the same outcome as if no deferred tax asset for the carry-forward of a foreign tax credit was recorded at all.

82. Because deferred tax assets arising from the generation of tax credits are excluded from the Total Deferred Tax Adjustment Amount and will not reduce Adjusted Covered Taxes, the generation of tax credits should not give rise to Top-up Tax under Article 4.1.5.

82.1. However, there are circumstances where it is inappropriate for an amount of deferred tax expense with respect to the generation and use of tax credits to be excluded from the Total Deferred Tax Adjustment Amount for a Constituent Entity for the Fiscal Year. This is the case where a jurisdiction taxes foreign source income and under the domestic tax rules of the jurisdiction, a Constituent Entity may use foreign tax credits to reduce domestic tax on income in a subsequent year after a domestic source loss has offset foreign source income. In such cases, without a specific exemption, the Constituent Entity’s ETR may be lowered as the use of the foreign tax credit carryforward is excluded from the Constituent Entity’s Adjusted Covered Taxes. This result would occur notwithstanding the fact that the Constituent Entity will generate a smaller deferred tax asset in respect of a loss carry-forward because the domestic tax loss offset the foreign source income. Had the foreign source income not offset the domestic tax loss, the full amount of the tax loss would have been reflected in the Constituent Entity’s deferred tax asset and therefore would be included in Covered Taxes when used by the Constituent Entity in future Fiscal Years.

82.2. To address this issue, Article 4.4.1(e) shall not apply in the case of a Substitute Loss Carry-forward DTA. For this purpose, a Substitute Loss Carry-forward DTA arises where all of the following apply:

a.) the jurisdiction requires that foreign source income offset domestic source losses before foreign tax credits may be applied against tax imposed on foreign source income;

b.) the Constituent Entity has a domestic tax loss that is fully or partially offset by foreign source income; and

c.) the domestic tax regime allows foreign tax credits to be used to offset a tax liability in a subsequent year in relation to income that is included in the computation of the Constituent Entity’s GloBE Income or Loss.

Where all of the above requirements are met, the deferred tax expense attributable to the Substitute Loss Carry-forward DTA shall be included in the Constituent Entity’s Total Deferred Tax Adjustment Amount in the Fiscal Year that it arises and in the Fiscal Year (or Years) it reverses, but only to the extent the foreign tax credit that gave rise to the Substitute Loss Carry-forward DTA is used to offset tax liability on income included in the Constituent Entity’s GloBE Income or Loss. The amount of a Substitute Loss Carry-forward DTA is equal to lesser of (i) the amount of the foreign tax credit in respect of the foreign source income inclusion that the domestic tax regime allows to be carried forward from the year in which the Constituent Entity had a tax loss (before taking into account any foreign source income) to a subsequent year; and (ii) the amount of the Constituent Entity’s tax loss for the tax year (before taking into account any foreign source income) multiplied by the applicable domestic tax rate. The Substitute Loss Carry-forward DTA is subject to the exclusion in Article 4.4.1(a) and must be recast at the Minimum Rate in accordance with the formula set out in the Commentary under Article 9.1.1.

82.3. Certain CFC Tax Regimes do not allow foreign tax credit carry-forwards but provide for equivalent results through a loss recapture mechanism that similarly allows excess foreign tax credits arising in a subsequent year to offset the domestic tax liability on the domestic source income that has been re-sourced as foreign source income. Provided this loss recapture mechanism does not provide for an outcome that is more generous than the outcome that would be provided for if a loss carry-forward had been generated (i.e. a DTA recast at the Minimum Rate), then equivalent adjustments shall be made as necessary to recognise the effect of this mechanism on Adjusted Covered Taxes. To ensure equivalent outcomes under the GloBE Rules, the amount of a Constituent Entity’s tax loss for a tax year that is subject to a recapture mechanism is treated as giving rise to a Substitute Loss Carry-forward DTA arising in the year of the tax loss and reversing as the tax loss is recaptured, but only to the extent the recapture mechanism increases the foreign tax credit used to offset tax liability on income included in the Constituent Entity’s GloBE Income or Loss.

82.4. Although this guidance is intended to achieve parity of outcomes between systems that do and do not result in a domestic loss carry-forward, Implementing Jurisdictions may modify their existing CFC Tax Regimes or other domestic tax laws to provide for similar outcomes under the GloBE Rules as if a loss carry-forward had been generated in the year of the domestic loss without such modification being considered a benefit related to the GloBE Rules that could prevent the Implementing Jurisdiction from being considered to have adopted a Qualifying IIR or Qualifying UTPR or necessarily preventing any resulting CFC Tax from being treated as a Covered Tax.

Article 4.4.2

83. Article 4.4.2 provides for certain adjustments to the Total Deferred Tax Adjustment Amount. The first adjustment in paragraph (a) operates to take into account any Disallowed Accrual or Unclaimed Accrual that has been paid during the Fiscal Year. As discussed in the Article 4.4.1 Commentary, such amounts were not taken into account when generated due to the speculative nature of when and whether such Taxes would be paid. However, once such Taxes are paid it is appropriate to take them into account for GloBE purposes. Although the tax paid will be included in current taxes, this may be offset by the decrease in the deferred tax liability, to the extent the deferred tax liability is included in the Total Deferred Tax Adjustment Amount, and therefore in Adjusted Covered Taxes. As a result, it is necessary to include an amount in the Total Deferred Tax Adjustment Amount to ensure there is no net movement in the Total Deferred Tax Adjustment Amount in order to ensure that the tax is taken into account for GloBE purposes. Because Article 4.4.1(b) excludes the movement in deferred tax expense with respect to Disallowed Accruals, the decrease in deferred tax liability when a Disallowed Accrual reverses should be excluded from the Total Deferred Tax Adjustment Amount. Therefore, the amount that reverses with respect to a Disallowed Accrual need not be added under Article 4.4.2(a) since that amount is already accounted for in current tax expense without an offsetting deferred tax liability reversal for GloBE purposes. However, while the exclusions of deferred tax expense in Article 4.4.1 apply equally to exclude both increases and decreases in deferred tax expense, an Unclaimed Accrual is defined solely by reference to an increase in a deferred tax liability, and thus any subsequent decrease will not be captured by the exclusion in Article 4.4.1(b), making the rule in Article 4.4.2(a) necessary for Unclaimed Accruals.

84. Paragraph (b) permits the addition of Recaptured Deferred Tax Liabilities that have been paid during the Fiscal Year. As discussed in greater detail in the Commentary to Article 4.4.4., certain amounts claimed as Adjusted Covered Taxes must be recaptured if not paid within the time limit set forth in Article 4.4.4. Subparagraph (b) permits taking these previously recaptured Adjusted Covered Taxes into account when such amounts are paid.

85. Paragraph (c) provides for the generation of a deemed deferred tax asset when a deferred tax asset should have been generated but was not due to the recognition criteria not being met. This rule is a corollary to the rule in Article 4.4.1(c) that disregards valuation adjustments or accounting recognition adjustments. However, in some cases the deferred tax asset may not be recorded in the first place due to the criteria not being met. This subparagraph provides for the generation of the deferred tax asset for GloBE purposes in the year of the loss and the rule in Article 4.4.1(c) then subsequently disregards the generation of such deferred tax asset in subsequent years when the recognition criteria is met. This aligns the generation of the attribute with the loss to ensure that Top-up Tax is not triggered under Article 4.1.5 simply due to the fact that the recognition criteria has not been met. This is illustrated by the following example.

86. In Year 1, Constituent Entity A generates a GloBE Loss and local tax loss of (100). No deferred tax asset is generated for financial accounting purposes because the recognition criteria have not been met (i.e., there is no forecast of future profits). The application of this subparagraph (c) results in the generation of a deferred tax asset of 15 in Year 1 (this represents the DTA that would have otherwise been recorded at the Minimum Rate). In Year 2, Constituent Entity A does not earn taxable income or GloBE Income or Loss, however, the future forecasts change and the DTA of 15 is recorded for financial accounting purposes because the recognition criteria are met. This is disregarded under Article 4.4.1(c). In Year 3, the Constituent Entity earns GloBE Income of 100 and applies its domestic tax loss carryforward. The DTA of 15 is applied in Year 3.

Article 4.4.3

87. Article 4.4.3 provides that when a deferred tax asset has been recorded at a rate lower than the Minimum Rate that such asset may be recast at the Minimum Rate when the asset is attributable to a GloBE Loss. This rule preserves the basic tenet that a GloBE Loss of EUR 1 should offset GloBE Income of EUR 1. For example, if a loss deferred tax asset was recorded at a 5% rate, a GloBE Loss of 100 would result in a deferred tax asset of 5. When 100 of income is subsequently earned, the deferred tax asset of 5 reverses and is added to Covered Taxes through the Total Deferred Tax Adjustment Amount. Absent a recast at the Minimum Rate, Top-up Tax of 10 would be due when 100 of income is subsequently earned. However, permitting a recast of the GloBE Loss at the Minimum Rate (i.e., increasing the value of the deferred tax asset recorded from 5 to 15 in respect of the GloBE Loss) prevents this outcome and provides that a loss of 100 shelters 100 of income.

88. To the extent an amount is recast at the Minimum Rate under Article 4.4.3, the recast must be done in the Fiscal Year in which the loss becomes a GloBE Loss to prevent distortive outcomes. For example, recasting in a year after the GloBE Loss is incurred could result in such recast resulting in additional Top-up Tax under the operation of Article 4.1.5. To the extent a deferred tax asset is increased by operation of this rule, it follows that like the generation of an actual deferred tax asset, that the Total Deferred Tax Adjustment Amount is decreased by the amount of incremental deferred tax asset generated.

Article 4.4.4

89. The recapture rule for categories of deferred tax liabilities that do not reverse within a specified period of time is set forth in Article 4.4.4. Unlike Recapture Exception Accruals, which are defined in Article 4.4.5, and discussed in further detail below, deferred tax liabilities recorded in other categories that do not reverse within the five Fiscal Years must be recaptured in the Fiscal Year in which the increase in the Recaptured Deferred Tax Liability was originally included in the Total Deferred Tax Adjustment Amount. This rule ensures that deferred tax liabilities recorded with respect to categories that do not relate to specific policy allowed categories are actually settled within the required period of time.

90. Each item of deferred tax expense for a Constituent Entity that is not in a category that meets the Recapture Exception Accrual definition should be tested in each Fiscal Year for recapture as necessary under the mechanics of Article 4.4.4. For example, in Year 0 a Constituent Entity reports an amount as a deferred tax liability and includes that amount in Adjusted Covered Taxes. The category of income to which the deferred tax liability relates is not listed in Article 4.4.5 as a Recapture Exception Accrual. In Year 5, which is five subsequent Fiscal Years after the amount was claimed, the deferred tax liability has not reversed and is subject to recapture as a Recaptured Deferred Tax Liability. Accordingly the Year 0 Topup Tax calculation must be recalculated under Article 5.4, having removed such amount.

Article 4.4.5

91. The Recapture Exception Accrual rule, which provides categories of deferred tax liabilities that do not need to be monitored for recapture under Article 4.4.4, is set forth in Article 4.4.5. The list of Recapture Exception Accruals sets out the temporary differences that are both common in Inclusive Framework jurisdictions and that are generally material to MNE Groups. Such temporary differences are typically tied to substantive activities in a jurisdiction or are differences that are not prone to taxpayer manipulation. Accordingly, to reduce compliance burdens, these low-risk items that are certain to reverse over time are not required to be monitored under the rules in Article 4.4.4 for recapture.

Paragraph (a)

92. The inclusion of cost recovery allowances in paragraph (a) of Article 4.4.5 with respect to tangible assets reflects the principle that accelerated depreciation and immediate expensing regimes are common in Inclusive Framework jurisdictions and that such timing differences are certain to reverse over the life of an asset. Absent the rule in paragraph (a) of Article 4.4.5, the recapture mechanism in Article 4.4.4 could serve to disgorge the benefit of such regimes and result in the distortion of jurisdictional ETRs for assets that have a lifespan longer than the time period set forth in Article 4.4.4.

93. Generally, tangible assets consist of property that is classified as Property, Plant, and Equipment or Stockpiles for financial accounting purposes. Property, Plant and Equipment are included as assets on the balance sheet if they are tangible items that are held for use in the production or supply of goods or services, for rental to others, or for administrative purposes and are expected to be used during more than one period.

94. Tangible assets also include natural resources, such as mineral deposits, timber, oil and gas reserves, and exploration and evaluation assets. If natural resources are eligible for an accelerated cost recovery method, or other treatment in respect of associated costs that results in timing differences between tax and accounting, paragraph (a) also applies to the corresponding timing differences. For purposes of this paragraph, whether an asset constitutes tangible property should be evaluated under the accounting standard used to determine the Financial Accounting Net Income or Loss of the Constituent Entity. Furthermore, the rule is intended to apply to deferred tax liabilities arising in connection with differences in capitalized costs associated with the particular asset. Thus, if the relevant financial accounting rules require capitalization of a broader range of costs than the relevant tax accounting rules, the associated deferred tax liabilities are treated as Recapture Exception Accruals. Similarly, if costs such as mine or oil and gas exploration and development costs that are deducted as incurred or amortised over a brief period for tax purposes and capitalised into the natural resource asset for accounting purposes, the associated deferred tax liabilities are treated as Recapture Exception Accruals.

95. Paragraph (a) also applies in the case where a tangible asset has been leased. Generally for financial accounting purposes, a lease is treated as a right of use that is depreciated and a lease liability (an obligation to make future lease payments). Upon initial recognition, the right to use the asset and the lease liability are equal and offsetting and as such there will be no net deferred tax asset or liability. Timing differences arise because when for local tax purposes, the treatment of leased assets differs from accounting such that lease payments are treated as deductible operational expenses. When such timing differences arise, paragraph (a) provides that they are not subject to the recapture rule set forth in Article 4.4.4.

Paragraph (b)

96. Paragraph (b) includes the cost of a licence or similar arrangement from the government, such as a lease or concession, for the use of immovable property or the exploitation of natural resources, where this entails significant investment in tangible assets. A right to use immovable property includes licenses for the right to use radio spectrum for telecommunications services. When the right also imposes an obligation to incur significant investment in tangible assets, the cost will be within paragraph (b). Thus, where there are differences between the relevant financial accounting rules and the relevant tax accounting rules regarding the timing of recognition of the cost of the licence or similar arrangement or related costs, or the accounting rules require capitalization of a broader range of such costs, the associated deferred tax liabilities are treated as Recapture Exception Accruals. For example, local tax laws may require the amortisation of a radio spectrum license over a fifteen year period, whereas for financial accounting purposes the useful life of such asset has been determined to be twenty years.

Paragraph (c)

97. Research and development expenses are included in paragraph (c) of Article 4.4.5, given that tax rules in Inclusive Framework jurisdictions generally permit the deduction of research and development costs, whereas some of such costs may be capitalised for financial accounting purposes. Adhering to the financial accounts with respect to the capitalisation of research and development costs could lead to unintended outcomes, including increased pressure on the application of accounting standards and differences in treatment depending upon the accounting standard utilised. Accordingly, given the commonality of deductions in Inclusive Framework jurisdictions and the materiality of research and development expenses to MNE Groups, research and development expenses are included as a Recapture Exception Accrual.

Paragraph (d)

98. De-commissioning and remediation expenses are included in paragraph (d) of Article 4.4.5 as Recapture Exception Accruals. These costs include the costs a taxpayer will incur to de-commission certain types of assets upon reaching the end of their useful life and remediating the site environment. For example, upon the end of the useful life of a nuclear power plant, the plant must be de-commissioned and environmental remediation will be required as part of the closure process. In order to reflect accurately the economic performance of an investment, accounting standards generally require the present value of anticipated de-commissioning costs to be capitalized and amortized over the life of the relevant asset. Such assets may include oil rigs, a well, a mine, or a power plant.

99. For example, in the natural resource extractive business, future reclamation and other closure costs stemming from ongoing production of a natural resource are generally expensed as the extraction progresses, even though the costs may not be paid until after the mine or well is no longer productive. In some jurisdictions, however, these costs may not be deductible for tax purposes until the operation is decommissioned or the costs are paid. Some jurisdictions may allow a deduction based on contributions to a trust or similar fund that is created for purposes of funding the future reclamation or closure costs. The amount of these contributions may differ from the amount accrued as an expense in the financial accounts.

100. Inclusive Framework jurisdictions generally allow the deduction of these de-commissioning and remediation costs that are expected to be incurred in the future, thus a commonality exists. Decommissioning, closure, and remediation expenses are also material. For example, significant costs are incurred when a well is abandoned or a mine closed, which could be half a century or more after extraction begins. Including such costs in paragraph (d) of Article 4.4.5 avoids the unintended outcome of effectively denying a GloBE deduction for environmental and other clean up-costs.

101. The rule in paragraph (d) of Article 4.4.5 does not give rise to GloBE policy risks, given the direct connection of the expense with substantive activities in a jurisdiction and the regulatory obligation to clean up site and de-commission assets. Further such timing differences are not prone to manipulation and are certain to reverse over a definite period.

Paragraph (e)

102. Fair value accounting on unrealised gains is included in paragraph (e) of Article 4.4.5 as a Recapture Exception Accrual. Some examples of fair value gains and losses for accounting purposes include increases in value of the investments assets of insurance companies or increases in the value of rights to timber held by a forestry company. Gains on such investments may not brought into account for tax purposes until such amounts have been realised through a sale or other disposition of the asset. The taxation of realised gains and losses is relatively common amongst Inclusive Framework jurisdictions and can give rise to temporary differences, which can often be material to MNE Groups, both in terms of amount and length of deferral. The Recapture Exception Accrual under this paragraph (e) only applies to the extent the fair value accounting is also applied for GloBE purposes. Therefore this paragraph would not apply to the extent the MNE Group had made an election under Article 3.2.5 in relation to such gains.

Paragraph (f)

103. Net gains on foreign currency exchange are taken into account in paragraph (f) of Article 4.4.5. Monetary items such as payables, receivables, and loans denominated in a foreign currency (i.e. different from the presentation currency of the MNE Group’s Consolidated Financial Statements used for calculation the Constituent Entity’s GloBE Income or Loss) are translated at the closing rate for accounting purposes, which is the spot exchange rate at the reporting date. Any foreign exchange gains and losses are generally recognised in the financial accounting income of a Constituent Entity. Domestic tax laws, however, may not recognise these unrealised foreign exchange gains and losses until a realisation event occurs, such as a repayment of a loan.

Paragraph (g)

104. Insurance reserves are provided for in paragraph (g) of Article 4.4.5 as a Recapture Exception Accrual. Insurance companies generally collect premiums, invest such premiums, and pay claims with the earnings. When a premium is collected, it is known that some portion of the premium and earnings on such premium will be needed to pay claims, generally in a subsequent period. Inclusive Framework jurisdictions generally allow a deduction with reference to the amount reserved for future claims, thus the full premium received is not subject to CIT. The amount allowed as a tax deduction is typically determined by reference to the amount of reserve requirements set by insurance regulatory agencies, which require insurance companies to hold a certain amount of assets in high-grade, liquid investments to ensure they can pay policyholder claims. Such regulatory capital requirements typically exceed accounting reserves by a significant amount. The difference between these accounting and tax reserves creates temporary differences that may be sustained over long periods, especially in the case of life insurance.

105. Given the commonality of treatment in Inclusive Framework jurisdictions and the materiality of insurance reserve amounts, insurance reserves are treated as Recapture Exception Accruals. These amounts are not prone to manipulation given that the timing rules are governed by regulatory requirements and accounting rules. The amounts are also certain to reverse over a definite period. Absent the rule for insurance reserves, significant distortions would exist with respect to the ETR for insurance companies due to the material timing differences between accounting and tax treatment.

106. The reference to deferred acquisition costs in Article 4.4.5(g) may include the recognition of items relating to in-force contracts (for example, as part of an insurance business acquisition), where the insurer is required to recognise the difference in the fair value of the acquired insurance contracts and insurance obligations assumed on acquisition. This item is commonly known as either value of business acquired, present value of in-force business, acquired value of in-force business, or value of business in-force, and may be recognised or disclosed together with another item, such as deferred acquisition costs, or as a separate item in financial statements for reporting purposes. In either case, to the extent recognised or disclosed, it is intended that Article 4.4.5(g) include such assets and liabilities. As is the case with deferred acquisition costs, this item is also amortised over a definite period, and can lead to material timing differences depending on local tax rules. It is similarly not prone to manipulation as timing of reversal of it is determined by accounting rules and local tax laws. The long-term nature of insurance contracts can also lead to significant timing differences, as a result of differences in tax rules and how insurance contracts are valued under different accounting standards. It is noted that recent changes to accounting standards may change how insurance contracts are measured and recognised and this includes for example how deferred acquisition costs may be referred to and recognised under such standards. Paragraph (g) of Article 4.4.5 shall be interpreted so as to accommodate these changes to the accounting standards as they apply to the items under paragraph (g).

Paragraph (h)

107. Paragraph (h) of Article 4.4.5 provides that deferred tax liabilities associated with gains from the sale of tangible property located in the same jurisdiction as the Constituent Entity that are reinvested in tangible property in the same jurisdiction shall be treated as Recapture Exception Accruals. Some Inclusive Framework jurisdictions permit a taxpayer to benefit from roll-over or deferral relief with respect to gain on the disposition of capital assets if reinvested into a replacement asset within a prescribed time period. The gain is not recognised but is treated as a reduction to the acquisition cost of the new asset, thereby preserving the gain for future taxation. Roll-over or deferral of gain treatment is equivalent to recognising the gain and then allowing an immediate expense of the same amount of the cost of the new asset. Thus, to the extent that the asset is depreciable for accounting purposes, the roll-over or deferral is akin to accelerated depreciation and immediate expensing. However, in the case of land, the temporary difference will not reverse until the land is sold and the gain is not rolled over to a new investment. Such difference is material and common in Inclusive Framework jurisdictions, having characteristics similar to accelerated depreciation. This is because the underlying expenditure is directly connected with investment in tangible assets and the difference will reverse over a definite period. Adherence to financial accounting treatment with respect to such property could lead to unintended outcomes including volatility in GloBE calculations.

Paragraph (i)

108. Paragraph (i) of Article 4.4.5 provides that deferred tax expense resulting from a change in accounting principles with respect to the categories enumerated in paragraphs (a) through (g) also benefit from the Recapture Exception Accrual rule. For example, if a change in accounting principles or policies occurs, as described in IAS 8, in a Fiscal Year that results in additional deferred tax expense being accrued with respect to a previously recorded cost recovery allowance on tangible property, such accrual shall benefit from the Recapture Exception Accrual rule by virtue of the application of this paragraph (i) (IFRS Foundation, 2022).

Article 4.4.6

109. The Disallowed Accrual rule is set forth in Article 4.4.6 and 4.4.1(b). This rule is intended to prevent accruals of tax with respect to uncertain tax positions and distributions from a Constituent Entity from being included in the Adjusted Covered Taxes amount until actually paid.

110. Amounts accrued with respect to uncertain tax positions are disallowed, given the MNE Group’s determination (and possibly its explicit or implicit assertion to the relevant tax authority) that the Taxes are not owed and the high uncertainty with respect to whether such amounts will be paid in a future period. Although the precise criteria may differ under Acceptable Financial Accounting Standards, uncertain tax positions generally result when a Constituent Entity takes a filing position that is not more likely than not to be sustained upon examination. Financial accounting standards require that a reserve is established for such positions. If the filing position is sustained, the reserve is released. Given the nature of such accruals, these amounts may not be treated as Covered Taxes unless and until the amount is actually paid.

111. Taxes levied upon distributions, such as withholding taxes and net basis taxes on dividends received, are generally imposed when an entity makes a distribution to its shareholder(s). Given that the MNE Group generally decides the timing of such distributions between Constituent Entities, it would be inappropriate to provide a current increase to Adjusted Covered Taxes for deferred tax amounts accrued in respect of distribution taxes.

Article 4.4.7

112. Article 4.4.7 provides a compliance simplification option with respect to the Article 4.4.4 recapture rule. This article permits a Constituent Entity to exclude from the Total Deferred Tax Adjustment Amount any deferred tax liability that is not expected to be paid within the time period set forth in Article 4.4.4. This simplification allows for the exclusion of deferred tax liabilities that are almost certain to require recapture, which reduces compliance monitoring such liabilities and recalculating Top-up Tax several years later.