The BEPS Project and the Two-Pillar Solution

Base erosion and profit shifting (BEPS) describes tax planning strategies multinational companies use to exploit gaps in international tax rules, shifting profits from higher-tax countries to low or no-tax locations. This practice costs governments an estimated $100 to $240 billion in lost revenue annually. In response, the Organisation for Economic Co-operation and Development (OECD) and G20 launched the BEPS Project. The project’s goal is to ensure profits are taxed where the economic activities that generate them occur. Over 140 jurisdictions are collaborating through an Inclusive Framework to implement the project’s measures and restore fairness to international tax systems.

Core Principles of the Initial BEPS Framework

The initial BEPS framework, launched in 2013, was built on a 15-point Action Plan. This framework is structured around three principles: ensuring coherence in corporate tax rules, requiring substance for tax benefits, and promoting transparency between taxpayers and tax administrations.

The principle of coherence addresses inconsistencies between countries’ domestic tax laws that can be exploited through complex financial structures. Action 2 of the BEPS plan targets hybrid mismatch arrangements, which occur when countries treat an entity or instrument differently for tax purposes. For example, a payment could be a tax-deductible interest payment in one country but a tax-exempt dividend in another. The rules neutralize these effects by either denying the deduction or including the payment in the recipient’s taxable income.

The principle of substance aims to prevent the artificial shifting of profits to locations with little or no real business activity. Actions 8-10 revise transfer pricing guidelines, which govern prices for transactions between related entities within a multinational enterprise (MNE). The revised guidelines mandate that profit allocation from these transactions must align with where value is created. MNEs can no longer attribute large profits to a subsidiary that only holds intellectual property on paper without performing the associated research or management functions.

Other actions prevent the artificial avoidance of a taxable presence, known as a permanent establishment (PE). Action 7 tightens the definition of a PE to stop companies from using commissionaire arrangements or fragmenting business activities to avoid taxes. Action 6 prevents treaty abuse, where companies engage in “treaty shopping” to gain unintended tax advantages. This is done by including a principal purpose test in tax treaties, which denies benefits if a main purpose of a transaction was to obtain them.

The principle of transparency ensures tax authorities have the information needed to assess tax risks. The main measure is Action 13, which introduced Country-by-Country Reporting (CbCR). This rule requires large MNEs to provide an annual report to tax administrations detailing financial data, such as revenue and taxes paid, for every jurisdiction they operate in. This information gives tax authorities a comprehensive overview of an MNE’s global operations to identify potential BEPS.

The Evolution to BEPS 2.0

The initial BEPS project did not fully resolve the tax challenges posed by the digitalization of the economy. The original Action 1 report stopped short of a definitive solution, leading many countries to implement unilateral measures like digital services taxes. This uncoordinated approach created risks of double taxation and increased business complexity. A political consensus emerged for a more comprehensive solution to address the digital economy and halt a “race to the bottom” on corporate tax rates, leading to the development of BEPS 2.0 and its two-pillar solution.

The BEPS 2.0 project represents a shift in international taxation, seeking to consolidate unilateral efforts into a unified approach. The framework aims to ensure MNEs pay a fair share of tax where they operate and to stabilize the international tax system.

Pillar One Explained

Pillar One departs from traditional tax principles that require a physical presence for a country to have taxing rights. Its objective is to re-allocate a portion of the profits of the largest MNEs to the market jurisdictions where their customers are located, regardless of physical presence. This new taxing right addresses the challenges of the digital economy, where companies can earn substantial revenue from a market without a traditional taxable footprint.

Pillar One’s scope is narrow, applying to MNEs with a global turnover exceeding €20 billion and a profitability margin over 10%. This high threshold targets only a specific subset of highly profitable, large-scale MNEs. The framework includes a plan to potentially reduce the turnover threshold to €10 billion after a seven-year review period.

The core of Pillar One is a new taxing right called “Amount A.” This mechanism allows market jurisdictions to tax 25% of an MNE’s profit that exceeds a 10% profitability threshold. This “residual profit” is then allocated to eligible market countries based on a revenue-based allocation key, linking the taxing right to where sales are generated. This formulaic approach moves away from the arm’s-length principle for this portion of profit, providing a more stable outcome.

Pillar One also introduces “Amount B” to simplify the application of the arm’s-length principle for routine activities. Amount B provides a fixed remuneration for baseline marketing and distribution activities in market jurisdictions. By standardizing the return for these functions, Amount B aims to reduce transfer pricing disputes. In February 2025, Amount B was incorporated into the OECD Transfer Pricing Guidelines, and jurisdictions can apply this approach for fiscal years beginning on or after January 1, 2025.

Pillar Two Explained

Pillar Two introduces a global minimum tax regime to ensure large MNEs pay a minimum level of tax on income in every jurisdiction where they operate. The goal is to curb the incentive for companies to shift profits to low-tax jurisdictions, putting a floor on tax competition. This pillar has a broader reach than Pillar One and will impact more companies.

The cornerstone of Pillar Two is a 15% global minimum effective tax rate. This rule applies to MNEs with annual consolidated revenues of €750 million or more. The effective tax rate is calculated on a jurisdictional basis, and if the rate in a country is below the 15% minimum, a top-up tax is triggered.

Enforcement is achieved through the Global Anti-Base Erosion (GloBE) rules. The primary mechanism is the Income Inclusion Rule (IIR), which imposes a top-up tax on the MNE group’s ultimate parent entity. If a subsidiary operates in a low-tax jurisdiction, the IIR requires the parent company to pay the additional tax to its home country to bring the total tax on that income to the 15% minimum.

A backstop rule, the Undertaxed Profits Rule (UTPR), ensures the minimum tax is applied even if the parent entity is not in a country that has implemented the IIR. The UTPR allows other jurisdictions where the MNE group operates to collect the top-up tax. This is done by denying tax deductions or requiring an equivalent adjustment for payments made to the low-taxed entity, ensuring the minimum tax is paid somewhere within the MNE’s global structure.

Implementation and Business Implications

Implementation of the BEPS 2.0 framework is progressing at different speeds for each pillar. As of early 2025, Pillar Two is in effect in over 50 jurisdictions. In contrast, Pillar One’s Amount A has not been implemented, as it requires a critical mass of countries to ratify a multilateral convention. This uncertainty has led some countries to continue considering their own digital services taxes.

Pillar Two introduces new compliance and reporting obligations for MNEs. Companies must gather extensive data to calculate their effective tax rate in every jurisdiction, creating a substantial administrative burden. Many companies may find their existing accounting and IT systems are not equipped to handle the GloBE rules, requiring technology upgrades and process changes.

The BEPS 2.0 rules also require MNEs to strategically review their international tax structures. Previous tax planning strategies may no longer be viable under the global minimum tax. Companies must reassess transfer pricing policies, asset locations, and corporate structure to align with the new standards and mitigate the risk of top-up taxes.