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Luxembourg’s Financial Institutions Face Compliance Risks Under Pillar Two Directive

The European Council Directive 2022/2523, also known as the Minimum Tax Directive or Pillar Two Directive, has introduced a minimum effective taxation (ETR) of 15% for large multinational enterprises and domestic groups within the European Union with annual revenues of at least €750 million. This directive is set to dramatically change the international tax landscape and impose new compliance requirements on financial institutions operating in multiple jurisdictions.

Implementation in Luxembourg

Luxembourg has published its implementing legislation, which will come into effect starting from January 1, 2024. Banks and insurance companies must now assess their readiness to comply with Pillar Two standards, particularly considering the specific rules applicable to their sector.

Key Requirements

• Luxembourg-based constituent entities are required to file a top-up tax information return based on a standard model with the Direct Tax Authorities no later than 15 months after the last day of the reporting fiscal year. • Late or incomplete filing would be subject to penalties.

Compliance Actions

To comply with Pillar Two standards, financial institutions should undertake several actions:

• Define working assumptions • Collect data for calculating a prospective effective tax rate • Provision linked to the QDMTT tax charge due at the end of FY24

Governance Framework

It is essential to establish an internal Pillar 2 governance framework, with a dedicated project team and use of data collection and mapping tools. Knowledgeable resources are key to support the group’s local Pillar 2 governance framework locally.

Impact on Financial Sector

Pillar Two has the potential to significantly impact the financial sector, creating many challenges and risks due to its complex implementation modalities and stringent requirements, not least on the compliance front. However, the implementation could be an opportunity for these sectors to improve their data collection and analysis, enhance their tax integrity and alignment, and develop more flexible and adaptable tax functions by upskilling data knowledge within the tax teams.

Governance Considerations

The governance set up around Pillar 2 is a crucial element that financial institutions will have to take into consideration. There is certainly a need to have local ownership of the Pillar 2 considerations, going forward, since the directive provides for an additional filing requirement in Luxembourg.

Mitigating Risks

As a result, banks and insurance companies should be aware of the potential risks associated with Pillar Two compliance and take steps to mitigate them by upskilling their data knowledge within the tax teams.