Pillar 2, which seeks to introduce a global minimum corporation tax, is one of the most significant developments in the international tax world in recent years. Pillar Two is another name for the OECD’s Global Anti-Base Erosion Model Rules—a proposal agreed by over 135 countries that is part of a package designed to ensure that the largest multinational groups pay their “fair share” of tax. 

It is an interesting time for Pillar 2, which has once again found itself on the front pages of newspapers. US President Trump and his administration are strongly opposed to Pillar 2 and have recently reached an agreement with the G7 to exempt all multinational groups headquartered in the US. This is a major development, as it removes 30–40% of the world’s multinationals from its scope. There is genuine uncertainty as to how this will work and whether this will prove to be the death knell for the entire project. It therefore seems like a good time to revisit what Pillar 2 actually is. 

At its core, the proposal is simple: multinational groups should pay tax at an effective rate of at least 15% in every jurisdiction in which they operate. In theory, the calculation is straightforward: how much tax does the group pay in country X, how much profit does it make there, and then divide one by the other. However, the details of the rules are extremely complex, and setting this all out here is beyond the scope of this article. 

Instead, this article focuses specifically on the practical impact of Pillar 2 on credit funds. The problem is that Pillar 2 was drafted with the world’s largest multinational corporations in mind—particularly those in the digital economy. The tagline for Pillar 2 remains “Tax challenges arising from the digitalisation of the economy”. The rules are not designed in a way that sits easily with fund structures, which can result in some surprising, perverse, and sometimes unfair outcomes. 

Most credit funds are out of scope

Pillar 2 only applies to groups with annual revenues that consistently exceed €750 million. This is a very high threshold for credit funds, and only the largest will come anywhere near it. 

Further, and even if this threshold is passed, there is an exemption for investment funds which can be helpful for credit funds. For private equity funds, by way of contrast, there are all sorts of concerns about how well the exemption works in this context: not only is a PE fund is more likely to meet the €750 million annual revenue threshold, if it does, the exemption is very limited in scope, as it only exempts the fund vehicle and holding structure—not the companies in which the fund invests. Whereas, the exemption generally works much better for credit funds, normally exempting both the fund structure and its assets entirely. 

The consolidation trap

However, there is a trap and we all need to be wary.

The €750 million annual revenue test is applied by reference to consolidated financial statements, whether prepared under IFRS, US GAAP, or other similar accounting standards. This means that you must watch out for whether the fund’s manager or any investors might consolidate the fund. 

While this is not usually the case, I have seen consolidation occur more frequently than I once assumed might be the case. Most commonly, it is the fund manager itself that consolidates. Under IFRS 10, a range of factors feed into the consolidation analysis. It is not just whether the manager invests in the fund; it also includes performance fees and the presence of effective kick-out rights. 

Occasionally, an investor might consolidate. This is unlikely in the case of widely held funds, but much more likely for funds of one or where there are very significant anchor investors. Some investors are exempt from consolidation because they are themselves investment funds. 

As mentioned above, President Trump has ensured that US-headquartered groups will be exempt, which in practice means that you are probably safe if a US-headquartered group consolidates the fund. Given how many asset managers are based in the US, this is significant.

Consequences of consolidation

What if the GP or an LP does consolidate? 

This is not a problem if the GP or LP does not have €750 million of annual revenues. However, they often do. If so, the credit fund will be brought within the scope of Pillar 2, and it will be necessary to assess whether the fund pays tax at an effective rate of 15% in every jurisdiction in which it operates.

For those wondering whether the exemption for investment funds might help here—it does not. The investment fund exemption is available if it is the fund itself that prepares consolidated financial statements. However, it does not normally apply if the fund is consolidated by the GP or an LP.
If it is within scope, the fund will need to assess whether it pays sufficient tax. Of course, funds normally pay very little tax, as the whole point of structuring a fund is to ensure that tax is paid at the level of the investors wherever they are based, rather than at the fund level.

The limited tax paid by funds is not necessarily a problem under Pillar 2. Limited partnerships do not pay tax because they are tax transparent, and Pillar 2 caters for this, but usually only when the partner is itself a tax-paying corporate or exempt. Tax-exempt fund vehicles (such as an Irish ICAV) are intended to be exempt by government policy. Again, Pillar 2 can accommodate this by treating tax paid by investors on dividends as tax paid by the fund.

Sometimes, asset-holding companies sit beneath the fund vehicle and do not pay tax because they have minimal accounting profits (such as an Irish section 110 company). In principle, this should also be acceptable under Pillar 2, but getting comfortable that there are no unexpected Pillar 2 tax liabilities is not straightforward as there are many rules to work through. 

One complication is that you do not normally test the effective tax rate by looking at the fund alone, but instead you must consider the position of all members of the consolidated group located in the same jurisdiction together and look at the overall blended results. This significantly complicates the analysis. In summary, if a credit fund falls within Pillar 2, tax advisers will need to review the fund structure and expected cash flows very carefully and consider how they are treated under the rules. 

Even if no additional tax is payable, new systems and processes may be needed to collect the necessary data to do the relevant computations and to comply with the reporting obligations. Investors could be impacted if the fund’s returns are reduced by Pillar 2 taxes or these increased compliance costs.

Who pays the tax?

Tax regimes are fond of acronyms, and once a credit fund is within Pillar 2, there are many to consider: IIR (income inclusion rule), UTPR (under-taxed profits rule), QDMTT (qualified domestic minimum top-up tax). These are very complex, but at their core, they are trying to determine who must pay any tax due and where. There are three main options:

• The parent of the consolidating group pays the tax where it is based (IIR) 
• The fund pays the tax itself where it has been set up (QDMTT) 
• Members of the consolidating group pay a portion of the tax (UTPR) 

None of these are good outcomes (and the end result may be a combination of the above). Non-consolidating LPs will not be pleased if the fund pays the tax and the problem is shared among investors, especially if the issue is caused by a GP or another LP. Similarly, a GP will not be happy if it pays the tax, given most of the economic returns flow through to investors. 

Do we need to worry about this when we do not even know whether Pillar 2 will go ahead?

Unfortunately, the horse has already bolted. 

Pillar 2 has been in force in the UK, the EU, Australia, and Canada since the beginning of 2024. In Japan, it took effect on 1 April 2024, and in Hong Kong on 1 January 2025. It is still unclear how the agreement between the US and the G7 will be implemented for US groups outside the US, and we have yet to see what it will mean for groups headquartered outside the US.

For now, the only prudent course of action is to continue to do your best to ensure your fund is not caught by Pillar 2, or, if it is, to understand the consequences. 
 

Pillar 2 only applies to groups with annual revenues that consistently exceed €750 million. 

This is a very high threshold for credit funds, and only the largest will come anywhere near it.