Building Tax Planning into Enterprise Risk Management Strategies

Tax planning is playing an increasingly important part in corporates’ enterprise resource management (ERM) strategies, driven by the many uncertainties created by political, economic, and pandemic-related trends. There are also ongoing changes within the international tax environment, including Pillar 1 and Pillar 2 of the OECD’s delayed Base Erosion and Profit Shifting (BEPS) 2.0 – initiative, and reporting associated with the potential impact of new tax laws based on changes in government leadership across the world.

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ERM is defined as a plan-based business strategy that aims to identify, assess, and prepare for any dangers, hazards, and other potentials for disaster. These include both physical and figurative dangers that may interfere with an organization’s operations and objectives.

It follows that tax teams should think about how they can make significant contributions to the ERM planning process by providing short, mid- and long-term ETR forecasts based on accurate financial information. Before exploring how they can do that in more detail, it helps to understand more about the motivation for boards to include tax planning in their ERM strategies.

Why Boards are Paying More Attention to Their Firm’s Tax Planning Activities

A study published in the Journal of Management Accounting Research found a clear link between board risk oversight and more effective tax-planning practices.

Writing about the study in the Harvard Business Review, its authors state that “we found companies where the board is most engaged in important risk-oversight activities, pay lower taxes, on average, and face a lower risk of regulatory scrutiny or reputational damage, as evidenced by less aggressive shifting of income abroad and 31 percent less-volatile income taxes relative to similar companies with lower levels of risk oversight.”

They add that highly engaged boards provide a culture and foundation that can maximize positive outcomes (such as lower tax payments) while minimizing potential negative outcomes (such as higher tax risk). They recommend that boards take three key steps to achieve these objectives:

1. Take Responsibility for Risk Oversight

Stating this responsibility internally and externally commits the board to incorporating risk considerations into its decisions and its evaluations of the company’s strategic decisions, including those associated with tax-avoidance policies.

2. Engage in Risk-Monitoring Activities on a Regular and Systematic Basis

Although it’s important for many financial areas, this process is especially relevant to taxes, owing to the constant evolution and updating of tax laws. Regular monitoring of tax-related risks should help ensure that the board remains comfortable with the outcomes of the company’s ever-evolving tax-planning initiatives.

3. Foster an Appropriate Risk Mindset

Because tax-planning initiatives present the company with both risks and rewards, boards must encourage management to evaluate any potential tax savings against any associated tax-related risks.

Reputational management is another driver for boards to build tax planning into ERM strategies. Risks to reputation and brand may arise from negative attention from the media and nongovernmental organizations (NGOs), even when a company’s tax policies are appropriate and in compliance. Executives now recognize tax as a strategic risk, with respondents to the global influence and growing awareness of BEPS among investors, customers, and other stakeholders.

Meanwhile, finance experts feel that most organizations maintain a team of tax specialists that is small, relative to the complexities of the task. Although tax is among the organizations’ heaviest users of financial data, the data available to tax-risk managers and overseers may be inadequate. In addition, methods of managing tax risk, particularly the operational, reputational, and strategic aspects of tax risk, may be underdeveloped relative to those for financial reporting and tax compliance risks.

The Role of Tax Teams

While often under-geared, and with little time spared to devote to anything but day-to-day tactical activities, tax teams have the opportunity to support boards in their efforts to understand more about tax planning and future tax positions. This is especially the case when they are fully equipped with the right tools and technologies.

Read our tips for helping tax teams become more strategic

However, trying to keep track of the many moving parts involved using spreadsheets is still very much the norm in many multinational companies, especially when incorporating transfer pricing adjustments that can materially impact the final tax positions. This is often a painful, manual process that is typically done once a year, and is one of the reasons why we still see so many unwanted, late year-end adjustments that invite internal and external scrutiny.

The first step in organizations where this is still the standard approach is to make a case for tax and transfer pricing software to executives. This begins by presenting answers to questions such as:

• Does your team spend too much time digging through P&Ls to pinpoint the real drivers behind each entity’s performance?
• Does your team ever have lingering doubts about the data it receives or its own subsequent analyses? Does this cause you to delay taking action until later on or at year-end?
• How easily can your work with external auditors and tax authorities? Are you able to easily supply them with the information they request, or is it a laborious and strained process for your team?

Given that boards are being strongly encouraged by audit firms to understand tax planning in more depth as part of their ERM strategies, conclusions derived from the answers to these questions should help pique executives’ interest and encourage them to invest in effective tax and transfer pricing software.

Having access to such software can elevate tax teams’ roles to that of strategic partners within their organizations. They can achieve this through more proactive responses to statutory changes in tax regimes, pinpointing their group’s tax position earlier on, and identifying their largest rate drivers.

All of these processes allow organizations to take decisive action much faster to strengthen their overall tax positions. As a result, tax departments of the future will be seen less as cost centers and more as value drivers. And, as tax planning becomes more and more important as an area to monitor within ERM, tax professionals will be invaluable in building the accurate views that are required.

Find out more about how you could use Longview Tax from insightsoftware to reshape your tax function. Book a demo, or drop us a line.