Since issuing the pillar 2 model rules in 2021, the OECD has released a commentary to those rules, three tranches of administrative guidance — the latest on December 18, 2023 — and an implementation guide. Although the United States appears unlikely to adopt the pillar 2 model rules into law, Treasury officials have played a key role in negotiating them and the interpretive guidance. Regardless of U.S. adoption, the rules will have a direct impact on U.S. corporate taxpayers that fall within the scope of the global minimum tax regime.
Many countries have enacted the OECD model rules, but the method by which the OECD’s interpretive guidance may take effect as domestic law is less clear. And although an extensive body of U.S. law applies to the domestic rulemaking process engaged in by administrative agencies, there is no directly applicable law — and no judicial oversight — for the rulemaking process of international organizations.
That means the global minimum tax — adopted with great fanfare in 2021 through an eight-page outline of an agreement — is being implemented around the world via a process far removed from the political and judicial oversight that generally applies to tax legislation. Some might celebrate this as a victory for tax lawmaking that is independent of corporate lobbying. But the administrative rulemaking process exists for a reason, and a lack of oversight and political review puts democracy at risk.
The APA and Chevron
In the United States, administrative agencies must follow requirements laid out in the Administrative Procedure Act, enacted in 1946 in response to the New Deal’s expansive lawmaking and accompanying grants of power to executive agencies. Among its mandates, the APA requires that federal agencies follow a notice and comment period when promulgating rules (5 U.S.C. section 553). Affected persons who believe that the proposed rules are unduly burdensome or unfair can ask the courts to review the agency’s process. In considering those complaints, courts have looked to whether the agency provided adequate opportunities for comment. (For a general description of APA requirements, see Todd Garvey, “A Brief Overview of Rulemaking and Judicial Review,” Congressional Research Service, R41546 (2017).) The tax rulemaking process generally also requires the IRS to provide estimates of the costs and benefits of a proposed rule, and to estimate the paperwork burden on taxpayers.
A person seeking judicial review under the APA must be able to demonstrate that they have suffered a legal wrong or otherwise been harmed by agency action. An agency, as defined by the APA, includes “each authority of the Government of the United States,” excluding Congress, federal civilian and military courts, and the D.C. and territorial governments (Jonathan M. Gaffney, “Judicial Review Under the Administrative Procedure Act (APA),” CRS, LSB10558 (2020)).
The Supreme Court decision in Chevron U.S.A. Inc. v. Natural Resources Defense Council Inc., 467 U.S. 837 (1984), stands for the proposition that so long as a federal agency, in applying and interpretating a statute, is doing so in a reasonable manner, its interpretation is entitled to judicial deference. The standard of deference courts should grant to the administrative rulemaking process articulated by Chevron is being reconsidered by the Supreme Court. (See Loper Bright Enterprises v. Raimondo, No. 22-451; and Relentless Inc. v. U.S. Department of Commerce, No. 22-1219.)
Two recent tax cases have considered IRS compliance with the APA. In 2022 the U.S. District Court for the District of Colorado upheld a taxpayer’s claim that temporary regulations issued by the government with a retroactive effective date, to address what it considered abusive transactions undertaken to take advantage of inconsistent effective dates in the Tax Cuts and Jobs Act, were invalid because they improperly ignored the APA’s notice and comment requirement (Liberty Global Inc. v. United States, No. 1:20-cv-03501-RBJ (D. Colo. 2022)). (The court subsequently held for the government on other grounds. Liberty Global, No. 1:20-cv-03501 (D. Colo. 2023).) The government had argued in a 2021 brief that “absent immediate action, imminent, significant, and irreversible harm to the public fisc would have occurred.” But the court rejected that claim, agreeing with the taxpayer that there had been sufficient time to issue temporary regulations after a notice and comment period.
In Altera Corp. v. Commissioner, 145 T.C. 91 (2015), the Tax Court struck down an IRS regulation governing the sharing of stock compensation expenses in cost-sharing arrangements. The court found that the IRS rule was arbitrary and capricious, lacked a basis in fact, and reflected administrative agency errors in the rulemaking process, including failing to adequately respond to comments. Although the Ninth Circuit ultimately overturned the Tax Court decision (926 F.3d 1061 (2019)), the processes that the Tax Court laid out as mandatory for the IRS to follow remain a cautionary reminder for the agency. (Prior coverage: Tax Notes Int’l, Nov. 22, 2021, p. 947.)
The reasoning used by the district court in Liberty Global and by the Tax Court in Altera is relevant in considering Treasury’s pillar 2 negotiations at the OECD.
Global Administrative Due Process
Parliamentary systems don’t have the separation of powers among branches that the U.S. legal system incorporates, and few countries offer direct parallels to the APA. But many other countries have rules that agencies are required to follow in issuing the type of informal guidance that doesn’t receive the legislative debate and political oversight that parliamentary enacted laws do.
Yale Law School professor Susan Rose-Ackerman has written extensively on comparative administrative law. In “Policymaking Accountability in Nation States and International Bodies,” a November 2022 opinion piece published in The Regulatory Review, she surveys some of the reasons underlying countries’ adoption of due process requirements in administrative rulemaking: Granting individuals due process rights protects them against state overreach, and such procedures enhance the democratic accountability of policymaking that takes place outside legislative bodies. Rose-Ackerman contrasts the strict rulemaking procedures mandated by the APA with the processes followed by other countries and describes how the lack of notice and comment requirements in some other jurisdictions is tied to different political structures.
In her book Democracy and Executive Power: Policymaking Accountability in the US, the UK, Germany, and France (2021), Rose-Ackerman emphasizes the importance of public participation, reason-giving, and transparency in rulemaking, as well as of judicial oversight. She describes commonalities in the rulemaking processes among those four countries, including requirements for unelected bureaucrats to involve the public in decision-making. This is important in ensuring agency accountability, given that administrative agencies can’t rely on voters for legitimacy (Ludivine Petetin, “Book Review: Democracy and Executive Power: Policymaking Accountability in the US, the UK, Germany, and France,” 14(3) Eur. J. Risk Reg. 631 (Sept. 2023)).
Others have considered how due process requirements may apply to international institutions. In his book Due Process of Law Beyond the State: Requirements of Administrative Procedure (2016), Giacinto Della Cananea describes how regional and global regulatory regimes have adopted procedural requirements similar to those mandated by many domestic laws — processes he suggests are grounded in concerns about protecting of individual interests against abuse of power and about good governance values. Jochen von Bernstorff notes “a growing uneasiness about the way public power is exercised beyond the national realm,” and he has argued that “if formalized procedural constraints for the exercise of public authority are important at the national level they are all the more so at the international level since conflicts over substantive legal standards and disagreement over community values are usually more acute” (“Procedures of Decision-Making and the Role of Law in International Organizations,” 9(11) German L.J. 1939 (2008)). That appears uniquely applicable to international tax rulemaking.
Legal Status of Administrative Guidance
Due process concerns aside, a separate series of questions revolves around the legal status of the OECD administrative guidance in different jurisdictions. A brief look at just a few countries’ pillar 2 legislation and how those countries are incorporating the OECD guidance into law highlights the wide variability in approaches.
United Kingdom
The U.K. pillar 2 legislation implementing a multinational top-up tax doesn’t specifically reference OECD administrative guidance. But it grants HM Treasury the power — as it deems necessary for ensuring consistency with the pillar 2 framework — to “make further provision” on the application of the OECD guidance to the law via “regulations made by statutory instrument.” The law defines the pillar 2 framework to include not just the OECD model rules, but the commentary and any further commentaries or guidance published by the OECD relevant to the implementation of the model rules.
Last September, the United Kingdom made good on its commitment to incorporate OECD administrative guidance into law by publishing draft legislation with amendments to the initial minimum tax law (F(No.2)A 2023). The 2023 draft amendments appear to adopt the OECD’s first two tranches of administrative guidance (issued in February and July of 2023) — including rules on tax equity partnerships and transferable credits — but were released too early to incorporate the OECD’s December 2023 guidance. Moreover, whether the draft legislation — when ultimately enacted — will be retroactive to January 1, 2024, is not clear from the text.
EU Member Countries
EU member countries were required to transpose into law EU Council Directive 2022/2523 on the global minimum tax by December 31 of last year. The directive generally replicates the OECD pillar 2 model rules but has not been amended to take any administrative guidance into account. The European Council and the European Commission have attempted to reconcile that discrepancy with the need for consistent interpretation.
In a draft statement accompanying a note issued October 30, 2023, the council said that it “welcomes and supports the agreement reached by the Inclusive Framework on the clarifications concerning application of Pillar Two contained in the administrative guidance endorsed by the Inclusive Framework in December 2022, in February 2023 and in July 2023.” (Given the timing, the statement doesn’t mention the December 2023 administrative guidance.) It also welcomed the commission’s view that the OECD administrative guidance (issued through July 2023) is compatible with the EU pillar 2 directive and said that EU member states needed to “ensure consistency” with this guidance when applying pillar 2, “in order to avoid non-alignment or applicability of diverging standards.” And it noted “the intention of the EU Member States to follow this guidance when transposing the Pillar Two Directive into their national law in order to avoid divergences and inconsistencies in interpretation of the provisions of that Directive.”
A separate statement from the commission, attached as an annex to the council’s statement, emphasizes its “view that the administrative guidance endorsed by” the inclusive framework on base erosion and profit shifting in December 2022, February 2023, and July 2023 “is compatible with” the EU directive.
But those statements merely affirm the council’s and the commission’s beliefs that countries should interpret their domestic pillar 2 regimes in a manner consistent with the OECD guidance, and don’t appear to have the force of law in any EU country. A caveat on the commission’s webpage says that the information provided in its FAQs on pillar 2 “represents the outcome of informal reflections of the Commission Services and should, as such, not be interpreted as binding on the European Commission and the Member States.”
The Netherlands
The Netherlands was the first EU country to introduce draft legislation implementing the pillar 2 directive, with an amended version introduced last May. In its explanation of the legislation, PwC noted that “the bill does not seem to comprehensively include the administrative guidelines” published by the OECD (PwC, “Pillar Two Bill Submitted to Dutch Parliament” (June 2023)). According to PwC, the Dutch explanatory memorandum on the law “refers to the guidance in a general sense, but the content of the guidelines cannot be comprehensively found throughout the legislative proposal.”
Ireland
As part of its 2023 Finance Bill (No. 2) introduced last October, Ireland implemented pillar 2 by transposing the EU directive into Irish law.
Section 90 of the bill inserts a new Part 4A into the Irish tax law. The explanatory memorandum to the bill states that “a mechanism to incorporate reference to future iterations of OECD Pillar Two guidance by order of the Minister for Finance is also included.”
The Irish bill doesn’t have a definition of administrative guidance. But it does include a section (111B) on “principles for construing rules in accordance with OECD Pillar Two guidance.” That section states that in calculating and administering the minimum top-up tax, the law is to be construed so as to ensure, as far as practicable, consistency between the effect that is to be given to the Irish minimum tax law and the effect that would be given if the OECD model rules were to be applied, in accordance with the OECD pillar 2 guidance, to the calculation and administration of those taxes.
OECD pillar 2 guidance is defined for this purpose to include the model rules, the commentary, and the first two tranches of OECD administrative guidance, plus any additional guidance published by the OECD that the finance minister designates by order “as being comprised in the OECD Pillar Two guidance.”
Under Irish law, it appears that the minister of finance can designate any future guidance issued by the OECD as official OECD pillar 2 guidance for purposes of interpreting Irish law, but in the absence of that, the OECD guidance is not incorporated into law automatically.
Switzerland
Late last year, Switzerland decided not to directly enact the OECD model rules. Instead, as Deloitte has explained in a blog post, its minimum tax ordinance “refers statically to the OECD Model Rules” and “dynamically” to the commentary and the administrative guidance, without specifying any particular version of the guidance (Deloitte, “It’s Official: Switzerland to Implement Pillar 2 in a Gradual Approach,” Tax and Legal Blog, Dec. 22, 2023). According to Deloitte, this means that taxpayers subject to the law must consider any new documents or versions of the commentary that will be released by the OECD.
Ambulatory Theory of Interpretation
In its guidance for interpreting the OECD model treaty, the OECD indicated that it believes the interpretation should reflect not just the law and meaning of terms at the time a treaty was entered into, but how they may have been modified over time. At least some countries’ adoption of pillar 2 into law may be incorporating such an ambulatory theory of interpretation.
Article 3(2) of the OECD model treaty provides:
As regards the application of the Convention at any time by a Contracting State, any term not defined therein shall, unless the context otherwise requires or the competent authorities agree to a different meaning . . . have the meaning that it has at that time under the law of that State for the purposes of the taxes to which the Convention applies, any meaning under the applicable tax laws of that State prevailing over a meaning given to the term under other laws of that State.
The commentary to article 3(2) of the OECD model tax treaty states that “the wording of paragraph 2 provides a satisfactory balance between, on the one hand, the need to ensure the permanency of commitments entered into by States when signing a convention . . . and, on the other hand, the need to be able to apply the Convention in a convenient and practical way over time.”
Under the ambulatory theory of interpretation, a term has its meaning under domestic law as periodically amended. According to Brian J. Arnold, who provided guidance to the U.N. in this area, the ambulatory approach “allows treaties to accommodate changes in domestic law without the need to renegotiate the treaty” (Arnold, “An Introduction to Tax Treaties”). But he also noted a “drawback” to this approach, namely that it “effectively permits a country to amend unilaterally its tax treaty with another country by changing certain parts of its domestic law.”
Rebecca M. Kysar — who served as senior counselor at the U.S. Treasury during much of the time the pillar 2 rules were being negotiated — has described how the OECD commentaries to the model treaty provide an extrinsic source of treaty interpretation, while noting that “complex issues arise involving the commentaries since they are ambulatory in nature” (Kysar, “Interpreting Tax Treaties,” 101 Iowa L. Rev. 1387, 1408 (2016)).
The pillar 2 rules are not a treaty, but applying the OECD’s ambulatory theory of treaty interpretation would mean that in interpreting the model rules, tax authorities (and the courts) should be considering current administrative guidance, whether or not it has been formally adopted into domestic law. That approach gives the OECD wide sway over domestic law without the need — or room — for much political input.
Questions Without Answers
In their work on the pillar 2 model rules and interpretive guidance, both the Trump and Biden Treasury departments engaged in the development and negotiation of rules that directly affect U.S. taxpayers, with minimal congressional oversight and without having to follow any of the procedures for domestic rulemaking mandated by the APA, including providing revenue estimates.
That’s because the APA does not apply to a process in which the executive branch — which has jurisdiction over foreign policy matters — negotiates rules that directly affect U.S. persons. Although there are suggestions for what due process in rulemaking by international organizations should look like, no specific rules apply now, nor is there a means of judicial review.
Few other countries have an oversight process for nonstatutory rulemaking that is as comprehensive as the APA, although many have similar due process requirements. These vary by country, as do the legal mechanisms that countries are adopting for incorporating the OECD’s pillar 2 administrative guidance into domestic law.
The OECD has followed basic due process procedures in implementing the pillar 2 model rules and subsequent guidance. It has held some public consultation (although many believe not nearly enough). But none of that approaches the type of process mandated by the APA, and the organization has deliberately refrained from making public the revenue impacts on any individual country. (Related coverage: p. 374.) Nor could it, because it must take into account not just U.S. comments but those from constituencies in countries with very different interests.
The lack of domestic oversight in tax rulemaking was in some sense precisely what the politicians who negotiated the pillar 2 agreement sought as they designed a minimum tax that couldn’t be influenced by local constituencies with the ability to negotiate favorable corporate tax breaks. But that absence of oversight severs rulemaking — and in turn, its outcomes — from a public accountability that is key to democratic society.
Mindy Herzfeld is professor of tax practice at University of Florida Levin College of Law, counsel at Potomac Law Group, and a contributor to Tax Notes International.
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