Regulation, transparency, & the coming IT revolution in Tax

Background:

The global tax environment is rapidly changing. Tax strategies, which have been legal and common for many years, are increasingly regarded as unacceptable. The public perception that corporates artificially shift earnings to low tax jurisdictions and default on their “social contract” has catapulted transfer pricing to the centre of the corporate social responsibility debate.

Tax revenues are one of the most significant ways in which corporates engage with society and by which governments fund public spending. Since society provides the ultimate consumers that corporates rely upon, and also sets the regulatory framework in which they operate, corporates should take note of where the pendulum of public opinion has swung in respect of the “fair tax” debate. The recent media frenzy that has made “tax avoidance” a sexy front-page issue, has been particularly successful because it chimes well with broader social trends and tensions, such as rising income inequality and government deficit reduction programmes.

Government Response & Tax Data:

In general, governments have been quick to respond to public concerns about tax avoidance, and corporate tax departments are now facing a tsunami of new regulations to consider and respond to. Whilst much of the focus in recent months has been on the OECD’s BEPS project or the work of the European Commissions on Tax Transparency and State Aid, there is less public awareness that many countries have commenced or plan to commence the most comprehensive and ambitious reforms of their own national tax systems in a generation. In this regard, the direction of travel is clear. Corporates will need to be able to prove that they pay taxes in the jurisdictions where they “generate profits”, and they will be increasingly required to “get naked” in respect of their tax affairs via self-disclosure/reporting and mandatory exchange of information between tax authorities. These twin pressures of increasing regulation and increasing transparency in tax affairs will bring the importance of tax data management sharply into focus. To be clear, tax data is broader than simply the quantitative data on your local tax returns or your group effective tax rate (ETR) computation. Tax data includes all transfer pricing reports, intra-group agreements, benchmarks, policy and operational documents, correspondence with tax authorities and your tax advisors, audit trails for tax accounting etc. In short, all relevant quantitative and qualitative data that may be required to justify your tax position to a tax authority or other stakeholders.

Status Quo:

Whilst finance departments have made significant use of technology in the task of controlling their data in recent years, tax professionals are still over-reliant on inefficient, semi-automated, or manual approaches, to data storage, retrieval, control and analysis (e.g. spreadsheets). In the absence of significant IT changes, corporate tax departments will struggle with “information overload”. At best, this may result in poor decision-making, a lack of focus, and missed opportunities. At worst, it could lead to financial statement errors or delays, unnecessary controversy proceedings, or large unexpected tax costs or penalties. Tax data risks are particularly high when experienced employees leave and new joiners struggle with the history and/or location of key tax data.

Smart IT Solutions:

At Questro, we believe smart IT solutions have a very significant role to play in the development of a roadmap for corporate tax departments to respond to the challenges ahead. We do not believe that tax departments will get the backing of the wider company to simply add headcount in the absence of a compelling business case to “work smarter” and leverage existing resources within a more data and IT driven model.

A Clear Example:

The OECD's proposed template for a country-by-country report (CBCR) provides a particularly clear example of the potential problems facing corporates and the growing demand for smart IT solutions.

Many corporates and advisors are currently focusing almost all of their attention on the preparation of the CBCR itself. Whilst there are no doubt challenges in collecting the relevant information, we believe the biggest challenge will be creating an effective “risk assessment link” between a draft CBCR and the underlying tax data (e.g. Masterfile(s), local entity TP reports, benchmarks, legal agreements, external advisor memorandum/opinions, uncertain tax positions, tax accounting documentation, audit history etc.). In short, you can't assess potential CBCR risks without a good understanding of the strength of your current TP documentation, legal agreements in place, consistency of approach taken across the group, advisor opinions, and tax audit history. Whilst all of this information no doubt exists within your company somewhere, the task of quickly retrieving it for a CBCR risk assessment covering 30, 50, 200+ legal entities will be daunting. Equally, a full global TP risk assessment by an external advisor is likely to be expensive and may “reinvent the wheel” in terms of providing information that probably already exists to a large extent within your group.

We believe technology solutions are essential in this field to help corporates organise their global TP data and create a clear linkage with their CBCR reports. If you are currently operating a TP data warehouse, intranet or shared access solution for data management, now is the time to consider the system's ability to create the clear CBCR linkages you will need on a go-forward basis. Creating such linkages within Excel files or linked and nested folders is neither efficient nor practical.

Final Thought:

We believe clients are increasingly seeking out tax professionals that are highly proficient in data analysis, statistics and technology, as well as those able to run process improvement and change management projects. We’ve built our firm on this belief, and it is clear to us that corporate tax departments will need to organise themselves with a similar skills set over the coming years and deploy technology more broadly and effectively in order to respond to the coming tax regulation and tax transparency challenges. See www.otico-software.com for more information about how technology may help you.