Tax News Update    Email this document    Print this document  

Executive summary

On 15 and 18 December 2023, the Bermuda House of Assembly and Senate, respectively, passed final legislation (the "Final Legislation") to enact a 15% corporate income tax (CIT) that would apply to Bermuda businesses that are part of multinational enterprise (MNE) groups with annual revenue of €750m or more. Enactment of the Final Legislation is expected to immediately follow in 2023.

The Final Legislation is largely consistent with the initial draft legislation released on 15 November 2023 as part of the third public consultation on the introduction of a CIT (the "Initial Draft Legislation"). Notable changes in the Final Legislation include: (i) the removal of the allowance of a foreign tax credit (FTC) associated with certain foreign taxes of non-Bermuda entities related to income earned by Bermuda entities (including no longer allowing an FTC with respect to United States (US) taxes paid by US persons on Subpart F/global intangible low-taxed income (GILTI) inclusions from Bermuda entities that are controlled foreign corporations (CFCs)); (ii) a limited two-year election available to exclude from the Bermuda CIT base certain income of a Bermuda entity that is a CFC for US federal income tax purposes; and (iii) a rule on the ordering of FTC determinations.

On 18 December 2023 the Bermuda Ministry of Finance released additional guidance concerning frequently asked questions on certain determinations for the CIT (the "FAQs"). The FAQs provide guidance on scoping determinations and how certain provisions are to be interpreted or otherwise intended to operate, including the making of elections, determination of tax losses, and computation of the economic transition adjustment (ETA).

The enactment of a CIT in Bermuda in 2023 has significant implications for multinational groups with a presence in Bermuda. The CIT regime contains numerous elections that have interrelated effects. Multinational groups with a Bermuda presence should consider the impact of enactment on their deferred tax accounting, and implications of enactment on determinations under the Organisation for Economic Co-operation and Development (OECD) Pillar Two Global Anti-Base Erosion (GloBE) Rules.¹

The purpose of this Alert is to summarize the changes in the Final Legislation compared to the Initial Draft Legislation, as well as provide an overview of the guidance contained in the FAQs. For a detailed overview of the Initial Draft Legislation, see EY Global Tax Alert, Bermuda government releases draft legislation for adoption of a 15% corporate income tax, dated 22 November 2023 (the "November CIT Alert").

Detailed discussion

Significant changes in the Final Legislation compared to Initial Draft Legislation

FTC ordering rule

The Final Legislation provides that Creditable Foreign Taxes must be determined in accordance with the relevant laws and regulations of the taxing foreign jurisdiction, except the determination is made prior to consideration of any tax credits that would otherwise be permissible in the foreign jurisdiction with respect to the Bermuda CIT (referred to hereinafter as the "General FTC Ordering Rule").² The General FTC Ordering Rule does not apply with respect to Bermuda Source Income. For this purpose, Bermuda Source Income means:

• Interest received from an Entity incorporated or organized in Bermuda, or an individual who ordinarily resides in Bermuda
• Dividends received from an Entity incorporated or organized in Bermuda
• Rents or royalties from the use of real or personal property located in Bermuda, or where the place of permitted use of the property is in Bermuda
• Income from a disposition of real property located in Bermuda
• Underwriting income from issuing or reinsuring any insurance or annuity contract in connection with property in, liability arising out of an activity in, or in connection with the lives or health of residents of Bermuda

EY observes: The General FTC Ordering Rule should reduce uncertainty faced by MNE Groups in determining how to coordinate the mathematical interdependencies arising between the FTC rules in Bermuda and other jurisdictions (sometimes referred to colloquially as the "circularity problem"). The General FTC Ordering Rule does not apply to Bermuda Source Income. Consequently, it appears that the determination of Creditable Foreign Taxes with respect to Bermuda Source Income requires considering the allowance of tax credits in the foreign jurisdiction with respect to the Bermuda CIT.

Elimination of certain allocations of Adjusted Creditable Foreign Taxes

In a change from the Initial Draft Legislation, the Final Legislation no longer permits an FTC with respect to Adjusted Creditable Foreign Taxes of: (i) a non-Bermuda Main Entity related to the Taxable Income or Loss allocated to a Bermuda Permanent Establishment (PE); (ii) Constituent Entity-Owners related to the Taxable Income or Loss of a Bermuda Constituent Entity that is a Hybrid Entity (as was defined in the Initial Draft Legislation); (iii) a direct Constituent Entity-Owner of a Bermuda Constituent Entity related to distributions from the Bermuda Constituent Entity; and (iv) direct or indirect Constituent Entity-Owners of a Bermuda Constituent Entity under a Controlled Foreign Company Tax Regime.

Also removed from the Final Legislation are provisions that would have allocated Adjusted Creditable Foreign Taxes from a Bermuda Constituent Entity to: (i) a PE for which the Branch Exemption Election has been made, if the taxes relate to Taxable Income or Loss of the PE; (ii) a Hybrid Entity (as was defined in the Initial Draft Legislation) for which the Bermuda Constituent Entity is a Constituent Entity-Owner, if the taxes relate to Taxable Income or Loss of the Hybrid Entity; and (iii) a Constituent Entity of which the Bermuda Constituent Entity is a direct Constituent Entity-Owner, if the taxes relate to distributions from the Constituent Entity.

EY observes: The narrowing of the rules for allocating Adjusted Creditable Foreign Taxes to or from a Bermuda Constituent Entity could have significant implications for MNE Groups, particularly MNE Groups that have Bermuda Constituent Entities owned through US corporations and are treated as CFCs for US federal income tax purposes. US taxes arising at the US-shareholder level on Subpart F/GILTI inclusions from a Bermuda Constituent Entity will not be allowed as a credit against Bermuda CIT. As noted below, consideration should be given to the CFC Income Exclusion Election. More generally, MNE Groups should consider the impact of this development in the Final Legislation on their Bermuda CIT determinations, including the interaction with determinations under the GloBE Rules.

Limited-time election to exclude certain income of Bermuda Constituent Entities that are CFCs for US federal income tax purposes

The Final Legislation contains an election to reduce certain of the Financial Accounting Net Income or Loss (FANIL) of a Bermuda Constituent Entity that is a CFC for US federal income tax purposes (referred to hereinafter as the "CFC Income Exclusion Election"). The CFC Income Exclusion Election is available to the extent that both:

• The Bermuda Constituent Entity is a CFC pursuant to IRC Sections 957 or 953(c)
• A Constituent Entity-Owner of the Bermuda Constituent Entity is a US shareholder (as defined in IRC Section 951(b)) and owns, within the meaning of IRC Section 958(a), an Ownership Interest in the Bermuda Constituent Entity (referred to hereinafter as the "Applicable Constituent Entity-Owner")

Under the CFC Income Exclusion Election, FANIL corresponding to the proportionate Ownership Interest of the Applicable Constituent Entity-Owner is excluded from the Bermuda Constituent Entity's Taxable Income or Loss.

The CFC Income Exclusion Election is only available with respect to the first Fiscal Year of the Bermuda Constituent Entity which begins on or after 1 January 2025 and prior to 1 January 2016, and the immediately succeeding year.

EY observes: With the Final Legislation no longer allowing an FTC for US taxes attributable to Subpart F/GILTI inclusions of a US shareholder of a CFC that is a Bermuda Constituent Entity, MNE Groups with CFCs should carefully consider the implications of the CFC Income Exclusion Election for the two Fiscal Years it would be made available, as well as the implications for the Fiscal Years after which the election would no longer be available. For years in which the CFC Income Exclusion Election is no longer available (e.g., 2027 in the case of a calendar year Fiscal Year), MNE Groups should analyze whether any Bermuda CIT paid at the CFC level would be creditable for US federal income tax purposes as part of a deemed-paid foreign tax credit under US Internal Revenue Code (IRC) Section 960 (including taking into the foreign tax credit limitation in IRC Section 904). For Bermuda reinsurers that are CFCs, the creditability of residual Bermuda CIT could be limited under IRC Section 904 to the extent the reinsurer assumes US-source risk.

FAQs

The below discussion is intended as a non-comprehensive summary of the guidance contained in the FAQs. MNE Groups are encouraged to study the FAQs in detail.

General applicability of the FAQs

As an introductory matter, the FAQs state they should be read in conjunction with the Final Legislation and is not intended to substitute or amend the provisions or definitions outlined in the legislation. Importantly, the FAQs clarify that the GloBE Rules (including any related Commentary or Administrative Guidance) is not imported by reference into the Final Legislation or any related regulations or other guidance unless expressly stated. Further, if the FAQs are significantly amended or expanded, consideration will be given to the fact that taxpayers may have relied upon the previous FAQs in arranging their affairs and, to the extent appropriate, a reasonable opportunity for taxpayers to make any changes will be afforded.

EY observes: The general guidance on the intent of the FAQs, including clarification on the relevance of the GloBE Rules to the CIT regime, should help bring clarity to MNE Groups in interpreting the Final Legislation and applying it to their structures.

Summary of elections

The FAQs organize the 24 elections contained in the Final Legislation by their classification in the Final Legislation as either Annual Elections, Five-Year Elections, or elections that are neither Annual Elections nor Five-Year Elections (referred to in the FAQs as "Other Elections"). In the Final Legislation, Annual Elections and Five-Year Elections as defined in the same manner as the Initial Draft Legislation and explained in the November CIT Alert, while the FAQs clarify that Other Elections, once made, cannot be revoked.³ The Appendix to this Alert contains a table reproducing the classification of the elections contained in the FAQs.

How elections are made

As a general rule, elections will be made in the Bermuda corporate income tax return of the Bermuda Constituent Entity Group of which the Bermuda Constituent Entity is a member that is filed for the Fiscal Year for which the election is intended to be effective. The FAQs state that it is anticipated that the return will include data fields that will allow the filer to provide a clear indication of all tax elections being made.

As an alternative to the general rule, and at the discretion of the decision-maker making the election, an election may be made in advance of filing a Bermuda corporate income tax return. A specific form (Form CT-ELP) and accompanying instructions have been made available to facilitate the making of elections prior to the filing of a Bermuda corporate income tax return. The FAQs state that elections made on Form CT-ELP may be modified and/or reversed in the Bermuda corporate income tax return or by filing of an amended Form CT-ELP. The FAQs clarify that there is no requirement under the Final Legislation to make elections in advance of filing a Bermuda corporate income tax return.

EY observes: The FAQs bring much-needed guidance to MNE Groups on the due dates and administrative parameters for making elections under the CIT regime. MNE Groups should consider the guidance in the FAQs and any tax accounting implications with respect to elections.

Elections applicable for the period to compute the Opening Tax Loss Carryforward

The Final Legislation retains the special rules introduced in Section 49 of the Initial Draft Legislation on the availability and applicability of elections for purposes of determining the Opening Tax Loss Carryforward and ETA (referred to hereinafter as "Pre-Effective Date Elections"). The FAQs confirm that Pre-Effective Date Elections will be made in the Bermuda corporate income tax return filed with respect to the Bermuda Constituent Entity group of which the Bermuda Constituent Entity is a member for the first Fiscal Year beginning after the look-back period for which the Opening Tax Loss Carryforward is computed (referred to hereinafter as the "Pre-Effective Date Period"), unless it is desired to make an election prior to such date through the filing of Form CT-ELP. Consistent with the Final Legislation, the FAQs confirm that Pre-Effective Date Elections, if made, apply for the entire look-back period and cannot be made with respect to only a subset of Fiscal Years within the Pre-Effective Date Period.

Consistent with the Final Legislation, the FAQs clarify that for purposes of computing the Opening Tax Loss Carryforward, the election to reduce the amount of Tax Loss Carryforward Deduction (Section 6(1)(b) of the Final Legislation) and the election to create a separate Bermuda Constituent Entity Group (Section 8(3) of the Final Legislation) are not permitted.

EY observes: Because any Pre-Effective Date Election, if made, applies to the entire Pre-Effective Date Period (even if such election otherwise would be an Annual Election), MNE Groups should carefully consider the implications of making an election for the Pre-Effective Date Period on their Opening Tax Loss Carryforward.

Definition of Insurance Investment Entity

The FAQs confirm that the definition and interpretation of the term "insurance investment entity" should follow the interpretation in the Commentary to the GloBE Rules. An Insurance Investment Entity may be wholly owned by a single Entity, or by several Entities which are all part of an MNE Group. The definition is also intended to cover Insurance Investment Entities which are established in relation to liabilities under one or more insurance or annuity contracts.

Computation of Opening Tax Loss Carryforward and Tax Loss Carryforward Deduction

Numerical examples are provided that demonstrate both the computation of the Tax Loss Carryforward Deduction and the Opening Tax Loss Carryforward. Additional clarifications, which are consistent with the statutory language of the Final Legislation, are also provided on the operation of the Tax Loss Carryforward Deduction.

EY observes: The numerical examples and other guidance on the determination of the Tax Loss Carryforward Deduction should bring greater clarity to MNE Groups on applying the Tax Loss Carryforward Deduction rules.

Prior period errors and changes in accounting principles

The FAQs provide several points of clarification on the required adjustments in the computation of Taxable Income or Loss for prior period errors or changes in accounting principles (Section 28 of the Final Legislation):

• Only the portion of a change in opening equity that that would have affected Taxable Income or Loss in previous Fiscal Years is subject to the adjustment (i.e., an opening equity adjustment accounted for through other comprehensive income would not be within the scope of the adjustment).
• To the extent that an election to forego the ETA is not made, prior period errors and changes in accounting principles impacting opening equity in periods occurring prior to 1 October 2023 are not taken into account for purposes of computing the Opening Tax Loss Carryforward. For a Bermuda Constituent Entity that elects to forego the ETA, the computation of the Opening Tax Loss Carryforward must take into account the adjustments required under Section 28 for prior period errors and changes in accounting principles impacting opening equity in the five Fiscal Years preceding the period when the taxpayer is subject to the CIT. An example is provided in the FAQ.
• For Bermuda Constituent Entities that implemented International Financial Reporting Standards (IFRS) 17/ Long Duration Targeted Improvements (LDTI), the special election in Section 29(1) of the Final Legislation to amortize certain amounts over a ten-year period (referred to in this Alert as the "IFRS 17/LDTI Election") cannot be made for implementations prior to 1 October 2023 unless the Entity has elected to forego the ETA. If the IFRS 17/LDTI Election is not made, the general rule in Section 28 for making adjustments in the determination of Taxable Income or Loss applies with respect to an opening equity adjustment related to an implementation of IFRS 17/LDTI. For Bermuda Constituent Entities applying the general rule in lieu of making the IFRS 17/LDTI Election, an optional safe harbor methodology can be applied for purposes of prorating the opening equity adjustment to prior periods that uses the weighted average life of the underlying insurance contracts from inception to the implementation date for contracts covered by the implementation of IFRS 17 and LDTI.

Economic transition adjustment (ETA)

The FAQs provide the following guidance on the ETA:

• Consistent with the Final Legislation, the only item excluded from the scope of the ETA is goodwill, and the election available to a Bermuda Constituent Entity to disapply the ETA is made with respect to all assets (excluding goodwill) and liabilities of the Bermuda Constituent Entity (i.e., it is an "all or nothing" election with respect to the Bermuda Constituent Entity).
• Specific examples of possible Identifiable Intangible Assets are provided, such as value of in-force business for insurance companies, brand, trade name, trademark registrations, formulas, know-how, licenses, software, distribution or marketing rights, customer or supplier relationships.
• A detailed numerical example is presented to demonstrate the determination of the ETA. The example contemplates the ETA for a Bermuda Constituent Entity owns, as of 30 September 2023 (referred to hereinafter as the "ETA Valuation Date"), cash, accounts receivable, bonds that are accounted for as "available-for-sale" for financial accounting purposes, fixed assets, accounts payable, and other liabilities.
• A detailed numerical example is presented to demonstrative the determination of the ETA for a Bermuda Constituent Entity that is included in an MNE Group that qualifies for the "limited international footprint" exclusion from scope (Section 13 of the Final Legislation).
• To assist an insurance company with determining the ETA with respect to policy liabilities of an insurance company, the FAQs introduce three possible methodologies:
• Option 1 - Actual method: The ETA is determined on the basis of the actual run-off experience of the Bermuda Constituent Entity.
• Option 2 — Fair value run-off pattern method: The ETA is determined using a set run-off pattern based on the estimated run-off pattern utilized for purposes of the valuation of the liabilities at the ETA Valuation Date.
• Option 3 - Safe harbor method: The ETA is determined by amortizing the aggregate ETA amount attributable to insurance contract liabilities on a 15-year straight-line basis, beginning 1 October 2023.

A Bermuda Constituent Entity must select one of the above methods, and the chosen method must be utilized for all insurance contract liabilities of the Bermuda Constituent Entity and for all fiscal periods subsequent to the ETA Valuation Date (including periods included in the determination of the Opening Tax Loss Carryforward).

• Subject to ongoing development of any required information filing requirements, a Bermuda Constituent Entity is expected to provide, upon request, appropriate supporting documentation for fair value determinations. In this regard, the Final Legislation and FAQs do not provide a dedicated definition of "fair value" but the FAQs note that "the term "fair value" is defined in both IFRS and US Generally Accepted Accounting Principles (GAAP) as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date."⁴

EY observes: The guidance on the determination of the ETA should help MNE Groups make required determinations for the ETA, including deciding whether to elect to forego the ETA. MNE Groups are strongly encouraged to carefully study the numerical examples presented on the computation of the ETA. The guidance on the treatment of insurance contract liabilities should provide flexibility to MNE Groups that will mitigate the potentially burdensome complexity associated with tracking the run-off and settlement of specific insurance liabilities.

Transfer pricing adjustments for purposes of calculating the Opening Tax Loss Carryforward

The Final Legislation generally requires that the Opening Tax Loss Carryforward be computed in the same manner as would have been required if each Bermuda Constituent Entity had been subject to the CIT during the look-back period, unless otherwise stated. To this end, an adjustment in the computation of Taxable Income/Loss is generally required under Sections 37(1)-(3) of the Final Legislation if certain transactions are not otherwise reflected consistent with the arm's-length principle. The FAQs state that, in acknowledgement of administrative complexity and the general expectation that cross-border related party transactions would have been subject to transfer pricing requirements in a foreign jurisdiction, a Bermuda Constituent Entity is not required to make adjustments under Sections 37(1)-(3) for purposes of determining the Opening Tax Loss Carryforward.

Conclusion

With the imminent enactment of the CIT regime, MNE Groups should revisit prior assessments of the impact to their structure in light of the changes to the regime reflected in the Final Legislation and additional guidance contained in the FAQ, including the impact on their deferred tax accounting and determinations under the GloBE Rules.

Appendix

———————————————

For additional information with respect to this Alert, please contact the following:

Ernst & Young Bermuda Ltd

• James Dockeray, Global Compliance & Reporting, Hamilton | james.dockeray@bm.ey.com

Ernst & Young LLP (United States), Financial Services Organization

• Chris Ocasal, ITTS, Washington | chris.ocasal@ey.com
• John Owsley, ITTS, Washington | john.owsley@ey.com
• Mike Shields, Insurance, Philadelphia | michael.shields02@ey.com

Ernst & Young LLP (United Kingdom)

• Jenny Coletta, International Tax Services | jcoletta@uk.ey.com
• Sarah Ho, EMEIA Financial Services — Tax | sho2@uk.ey.com
• Aran Mustafa, Global Compliance & Reporting | aran.a.mustafa@uk.ey.com

Published by NTD’s Tax Technical Knowledge Services group; Carolyn Wright, legal editor

———————————————

ENDNOTES

¹ See EY Global Tax Alert, OECD releases Model Rules on the Pillar Two Global Minimum Tax: Detailed review, dated 22 December 2021.

² Unless otherwise noted, capitalized terms used in this Alert are defined as in the Final Legislation.

³ An Annual Election is available on an annual basis and, once made, applies for the Fiscal Year in respect of which the election is made and all subsequent Fiscal Years, unless and until the election is modified or revoked. A Five-Year Election, once made, would apply for the Fiscal Year in which it is made and the four succeeding Fiscal Years, after which the election would continue to apply unless and until the election is modified or revoked. If revoked, the election would not be available with respect to the revocation year or four succeeding Fiscal Years following the revocation year.

⁴ See FAQs, pg. 31.