August 17, 2023
Bermuda's consideration of adopting a corporate income tax has significant implications for insurance industry
On 8 August 2023, the Government of Bermuda announced that it has opened a series of consultations on proposals to introduce a corporate income tax (CIT) that would be imposed at a rate ranging from 9% to 15% and would only apply to Bermuda businesses that are part of Multinational Enterprise (MNE) Groups with annual revenue of €750m or more. A CIT, if enacted, is intended to be effective for tax years beginning on or after 1 January 2025. The period for public comment on the first consultation (August Consultation Paper) is open until 8 September 2023.
The consideration of a Bermuda CIT has significant implications for multinational insurance groups with a presence in Bermuda. Insurers and reinsurers with a Bermuda presence should study the August Consultation Paper carefully and consider the potential impact to their structures generally and determinations under the Organisation for Economic Co-operation and Development (OECD) Pillar Two Global Anti-Base Erosion (GloBE) Rules in particular.
The August Consultation Paper was put forward in response to the OECD Pillar Two GloBE Rules,1 which apply to MNE Groups2 with annual revenue of €750M or more and operate to impose a Top-Up Tax on profits arising in a jurisdiction whenever the effective tax rate (ETR), determined on a jurisdictional basis, is below the 15% minimum rate. The jurisdictional ETR is determined based on the ratio of the aggregated Adjusted Covered Taxes of each Constituent Entity located in the jurisdiction to the Net GloBE Income of the jurisdiction for the Fiscal Year. The August Consultation Paper sets out alternative policy approaches (including retention of the status quo and implementation of a Qualified Domestic Minimum Top-up Tax (QDMTT)) that the Government considered and explains why they are not currently the preferred option.
Key attributes of the proposed CIT
The August Consultation Paper states that, as a design principle, the Bermuda CIT should qualify as a Covered Tax, such that the tax would mitigate the amount of Top-Up Tax payable to other jurisdictions with respect to profits earned in Bermuda. Further, a Bermuda CIT should leverage certain key scoping and definitional elements of the GloBE Rules. The August Consultation Paper specifically mentions, as examples, the definitions of Entity, Group and MNE Group, Constituent Entity, and Ultimate Parent Entity. Other design features of the tax are intended to support key policy initiatives of the Government of Bermuda (e.g., maintaining Bermuda's competitiveness and reputation for quality, reducing the cost of living and doing business, creating jobs, increasing the residential population, and other initiatives intended to stimulate the broader Bermuda economy).
Scope of the proposed CIT
The Bermuda CIT would only apply to an MNE Group with revenues of €750M or more that has at least one Tax Resident Entity or Permanent Establishment (PE) located in Bermuda. For this purpose, a Tax Resident Entity is defined as "an Entity created or organized in Bermuda, unless the Entity provides sufficient evidence that it is tax resident in another jurisdiction based on the location of its central management and control."3 A Bermuda PE is defined as "a PE, as such term is defined in Article 5 of the OECD Model Tax Convention, located in Bermuda."4
Tax Resident Entities and Bermuda PEs would be excluded from the Bermuda CIT in three circumstances. First, an exclusion applies to Excluded Entities as defined in the GloBE Rules (e.g., governmental entities, not-for-profits, pension funds, investment funds). Second, an exclusion applies to Entities and PEs that are Constituent Entities of an MNE Group that is in the initial phase of its international activity (as defined in Article 9.3 of the GloBE Rules). Third, an exclusion applies to entities that are Constituent Entities of a MNE Group that are less than 80% owned (by value, directly or indirectly) by the Ultimate Parent Entity.
Taxable income of a Tax Resident Entity will generally be determined based on its worldwide income, though taxable income of a non-Bermuda PE may be excluded from the calculation of taxable income of a Tax Resident Entity. Thus, for example, the income attributable to a US PE of a Tax Resident Entity would not be within the base of the Bermuda CIT (and, as discussed below, US federal income taxes attributable to the US PE would be unavailable as a credit against Bermuda CIT imposed on the Tax Resident Entity). In determining the taxable income or loss of a Bermuda PE, the principles of Article 7 of the OECD Model Tax Convention would apply.
The taxable income of each Tax Resident Entity or Bermuda PE would be determined from a financial statement prepared under an acceptable accounting standard consistent with that of its Ultimate Parent Entity, excluding any consolidation adjustments eliminating intra-group transactions. The August Consultation Paper notes that further analysis should be completed to determine whether other accounting standards (e.g., local adopted accounting bases or Bermuda statutory) could alternatively be used as the starting point for determining Bermuda taxable income.
Adjustments to financial statement net income would generally be consistent with the adjustments summarized in Article 3 of the GloBE Rules, and deductions would be allowed for net operating losses (NOLs) carried forward. Other adjustments would potentially be allowed or required if determined "to be appropriate in accordance with prudent and equitable tax policy."5 Examples of adjustments cited in the August Consultation Paper are adjustments to facilitate an orderly and fair transition to the new tax regime, industry-specific adjustments and adjustments intended to address inappropriate tax outcomes resulting from the application of specific financial accounting standards to certain transactions or industries.
The August Consultation Paper notes that, in determining taxable income, cross-border transactions between members of the MNE Group should generally be at arm's length. Finally, the taxable income of a flow-through entity would be allocated in a manner consistent with Article 3.5 of the GloBE Rules.
Tax calculation and rate
The Bermuda CIT would be equal to the Bermuda taxable income multiplied by the CIT rate (envisioned within a range of 9%-15%), with the product reduced by applicable foreign tax credits and qualified refundable tax credits (QRTCs) as defined in the GloBE Rules. The Bermuda CIT return filing would be prepared on a consolidated basis (i.e., including all Tax Resident Entities and Bermuda PEs in the MNE Group that are subject to the Bermuda CIT), however an election would be available to file a return on a separate-entity basis.
QRTCs would be designed to encourage local substance (e.g., local recruitment and training incentives, capital investments in Bermuda infrastructure and improvements, and innovation (e.g., research and development)).
Foreign tax credits (FTCs) would be allowed for non-Bermuda taxes such as income taxes (including federal, state and local income taxes), withholding taxes, US federal excise tax on insurance and reinsurance premiums, and other taxes collected in-lieu of an income tax. An FTC would also be allowed for foreign taxes imposed on a direct or indirect parent of a Tax Resident Entity under another jurisdiction's controlled foreign corporation (CFC) regime. The amount of the credit would be equal to the CFC taxes that the direct or indirect parent paid or accrued on Bermuda profits. The August Consultation Paper states that the total allowed FTC is expected to equal the amount of current and deferred taxes of each Tax Resident Entity or Bermuda PE included in the preparation of the consolidated financial statements of the Ultimate Parent Entity.
The August Consultation Paper notes that further analysis by the Bermuda government will take place on the appropriate CIT rate, but as a design principle the rate should be established at a level that (1) is unlikely to result in an overall ETR exceeding 15% on profits earned in Bermuda, and (2) mitigates the potential for Top-Up Tax payable to other jurisdictions on profits earned in Bermuda.
The August Consultation Paper outlines other administrative considerations for adopting and administering the CIT. If enacted, the Bermuda CIT would be effective for tax years beginning on or after 1 January 2025.
The consideration of a Bermuda CIT has significant implications for MNE Groups with a presence in Bermuda.
The intention to design the CIT to ensure it is a Covered Tax and leverage key definitions from the GloBE Rules (cited specifically are the definitions of Entity, Group and MNE Group, Constituent Entity, and Ultimate Parent Entity) will facilitate consistency and predictability in applying the GloBE Rules and Bermuda CIT to MNE Groups. As Bermuda releases more refinements to the proposed CIT, additional terms found in the GloBE Rules may need to be specifically incorporated into the proposed CIT rules to ensure continued consistency.
While the August Consultation Paper articulates a policy objective to not tax profits earned by MNE Groups in Bermuda in excess of 15% while mitigating the potential for Top-Up Tax payable in other jurisdictions on profits earned in Bermuda, further refinements to the proposed CIT regime will likely be required to achieve this objective. The August Consultation Paper concludes by noting that the second consultation — to be held later in 2023 — will cover aspects of the proposals such as how taxable income and creditable taxes are computed, questions as to scope and transitional matters.
Further refinement of the August Consultation Paper may be needed. For example, although the threshold €750m revenue requirement for an in-scope MNE Group is aligned with the GloBE Rules generally, the August Consultation Paper does not say the revenue test is identical to the GloBE Rules, which generally require the MNE Group to have at least €750m in revenue in two out of four preceding Fiscal Years. Further, excluding from the Bermuda CIT a Tax Resident Entity that is less than 80% owned by the Ultimate Parent Entity appears to deviate from the GloBE Rules, such that a Tax Resident Entity's GloBE Income may be included in the Bermuda jurisdictional ETR for GloBE purposes yet not be part of the Bermuda CIT tax base. This disparity may result in either an ETR on Bermuda profits in excess of 15% (because jurisdictional blending cannot be achieved) or Top-Up-Tax being imposed by another jurisdiction on the Bermuda profits of a less-than-80% owned Tax Resident Entity. Similar outcomes may arise unless refinements to the Bermuda CIT are made to take into account the treatment of Minority-Owned Constituent Entities, Partially-Owned Parent Entities, and Joint Ventures.
The August Consultation Paper does not address the treatment of entities that have elected to be treated as a US corporation under Internal Revenue Code Section 953(d) (953(d) companies). MNE Groups with 953(d) companies should carefully consider the implications of the proposed Bermuda CIT on their 953(d) companies, including US federal income tax liability determinations and GloBE determinations for such companies.
The allowance of an NOL deduction is a welcome design feature, particularly for the insurance industry, which can experience underwriting cycles with large losses in some years due to catastrophic events or economic fluctuations. The August Consultation Paper does not address how pre-effective-date NOLs will be brought into the CIT regime or whether there is a limitation on either the utilization of NOLs in any given year or the number of years NOLs may be carried forward or back. Given the potential volatility of earnings for an insurance company, further guidance on the treatment of NOLs is of critical importance for the industry.
The design principles of the FTCs that would be allowed for Bermuda CIT purposes generally appears in keeping with the objective to not impose an ETR on Bermuda profits in excess of 15%. Specifically identifying federal, state, and local income taxes as well as US federal excise taxes, withholding taxes, and other taxes imposed in-lieu of income taxes as allowable FTCs brings welcome clarity to the insurance industry. The allowance of FTCs for CFC regime taxes should also allow taxes imposed under the U.S. Subpart F and GILTI regimes to be credited against the Bermuda CIT imposed on a CFC that is a Tax Resident Entity. The August Consultation Paper does not address how taxes imposed under GILTI will be allocated to a CFC Tax Resident Entity. In keeping with the overall design principles articulated in the paper, consideration should be given to incorporating reference to the allocation method for Blended CFC Tax Regimes contained in the February 2023 OECD Administrative Guidance.6
The proposed FTC for CFC regime taxes appears to not contemplate the limitation on the amount of allocable CFC regime taxes in Article 4.3.3 of the GloBE Rules, which generally limits the amount of allocable CFC regime taxes in respect of Passive Income to prevent the blending of Taxes paid on Passive Income with non-Passive Income. Without additional coordination of these rules, an insurance company Tax Resident Entity that derives Passive Income that is taxed at the shareholder level under a CFC regime (such as the US Subpart F rules) could be treated as a Low-Taxed Constituent Entity for GloBE purposes even in the presence of a Bermuda CIT, because the FTCs allowed for Bermuda CIT purposes would exceed the push-down of CFC taxes allowed for GloBE purposes such that the Bermuda jurisdictional ETR is less than 15%. Consideration should be given to whether additional coordination between the GloBE Rules and Bermuda CIT is merited to achieve the stated policy objective to mitigate the potential for Top-Up Tax payable to other jurisdictions on profits earned in Bermuda.
MNE Groups with a Bermuda presence are strongly recommended to study the August Consultation Paper carefully and consider the potential impact to their structures generally and GloBE determinations in particular. The August Consultation Paper outlines seven high-level questions for which specific input from the public is invited.7 MNE Groups are encouraged to provide comments to the Bermuda government on issues presented in the August Consultation Paper or other issues that are not mentioned in the paper but are of importance. The consultation period for comments ends 8 September 2023.
For additional information with respect to this Alert, please contact the following:
Ernst & Young LLP (United States), Financial Services Organization
Published by NTD’s Tax Technical Knowledge Services group; Carolyn Wright, legal editor
1 See EY Global Tax Alert, OECD releases Model Rules on the Pillar Two Global Minimum Tax: Detailed review, dated 22 December 2021.
2 Capitalized terms not otherwise defined in this Tax Alert carry the same meaning as in the GloBE Rules.
3 August Consultation Paper, pg. 6.
5 August Consultation Paper, pg. 7.
6 See EY Global Tax Alert, OECD/G20 Inclusive Framework releases Administrative Guidance under Pillar Two GloBE Rules: Detailed Review, dated 9 February 2023.
7 See page 12 of the August Consultation Paper.