Written by Richard Cornelisse
Managing reputational risk Reputational risk is a key element in tax risk management as it is it not only considers individual tax risk but also sees how tax risk may influence the positions in other areas, negatively or positively.
An interesting read is US Senator Bernie Sanders 'America’s Top 10 Corporate Tax Avoiders' list.
Think about the taxpayer's customers, suppliers, employees, external auditors, financial institutions, the taxpayer's credit rating. If a company is associated with unacceptable behaviour, the suppliers or vendors may choose to change contractual relationships and it could impact shareholders value.
On June 2014, the European Commission said it had opened three in-depth investigations into tax decisions affecting Apple, Starbucks and Fiat Finance and Trade in Ireland, the Netherlands and Luxembourg respectively.
An U.S. Senate investigation has revealed that Apple, that, "under the agreement Apple has with Ireland", Apple paid a maximum tax rate of 2 percent or less. Apple's annual reports show that over the past three years, Apple paid taxes worth 2 percent of its $74 billion in overseas income.
On his 2008 Presidential campaign trail, Barack Obama made his hostility toward “offshore” jurisdictions very clear:
“There’s a building in the Cayman Islands that houses supposedly 12,000 U.S.-based corporations. That’s either the biggest building in the world or the biggest tax scam in the world, and we know which one it is.”
Reputational dangerOn June 2014, the European Commission said it had opened three in-depth investigations into tax decisions affecting Apple, Starbucks and Fiat Finance and Trade in Ireland, the Netherlands and Luxembourg respectively.
An U.S. Senate investigation has revealed that Apple, that, "under the agreement Apple has with Ireland", Apple paid a maximum tax rate of 2 percent or less. Apple's annual reports show that over the past three years, Apple paid taxes worth 2 percent of its $74 billion in overseas income. Reuters 21 May 2013.
It raises the question whether besides evaluating tax risks (level of tolerance) also reputational risks of the company - as part of proper tax risk management - should be considered mandatory when such schemes are recommended.
- Is the public opinion important for tax planning and the company's business objectives?
- Has that changed due to economic climate and EU / US investigations?
- What drives public opinion?
- What is the impact on the reputation of the tax professional if planning is implemented and becomes unforeseen public knowledge?
- How important is the reputation of the tax professional to establish company's tax objectives such as tax controversy when 'enhanced relationships' with tax authorities might be a global trend?
Is what Apple did wrong?
How Apple Sidesteps Billions in Global Taxes by Charles Duhigg and David Kocieniewski
Tax planning acceptable or not "Apple’s headquarters are in Cupertino, Calif. By putting an office in Reno, just 200 miles away, to collect and invest the company’s profits, Apple sidesteps state income taxes on some of those gains.
California’s corporate tax rate is 8.84 percent. Nevada’s? Zero. Setting up an office in Reno is just one of many legal methods Apple uses to reduce its worldwide tax bill by billions of dollars each year. As it has in Nevada, Apple has created subsidiaries in low-tax places like Ireland, the Netherlands, Luxembourg and the British Virgin Islands — some little more than a letterbox or an anonymous office — that help cut the taxes it pays around the world.
Almost every major corporation tries to minimize its taxes, of course. For Apple, the savings are especially alluring because the company’s profits are so high. Wall Street analysts predict Apple could earn up to $45.6 billion in its current fiscal year — which would be a record for any American business.
Without such tactics, Apple’s federal tax bill in the United States most likely would have been $2.4 billion higher last year, according to a recent study by a former Treasury Department economist, Martin A. Sullivan."
Apple's public image is made of teflon
The N.Y. Times' tax-avoidance story didn't stick to Apple By Philip Elmer-DeWitt
"When the New York Times claimed incorrectly last year that General Electric (GE) paid zero federal taxes in 2010 on worldwide profits of $14.2 billion, the company's reputation took a steep and prolonged hit, as measured by YouGov's BrandIndex Reputation score.
Not so Apple (AAPL)
When the same paper ran a front-page story last week detailing -- again incorrectly, according to Forbes -- the lengths to which Apple has gone to avoid paying taxes, the company's consumer reputation barely budged.
In fact, based on responses to the question "Would you be proud or embarrassed to work for this brand?" Apple's reputation score actually went up modestly a few days after the Times story broke, according to a YouGov report issued Tuesday. The market research firm concluded that Apple's public reputation is "virtually Teflon" - at least in terms of tax avoidance."
Richard Cornelisse: "However, is there a time limit on being bulletproof?"
European Commission's decision
State aid "In the light of the foregoing considerations, the Commission's preliminary view is that the tax ruling of 1990 (effectively agreed in 1991) and of 2007 in favour of the Apple group constitute State aid according to Article 107(1) TFEU [Treaty on the Functioning of the European Union].
The Commission has doubts about the compatibility of such State aid with the internal market. The Commission has therefore decided to initiate the procedure laid down in Article 108(2) TFEU with respect to the measures in question."
According to Article 107(1) of the Treaty on the Functioning of the European Union (TFEU), state aid which affects trade between Member States and distorts, or threatens to distort, competition by favoring certain undertakings, is incompatible with the EU Single Market - Tax advantages for Fiat and Starbucks are illegal under EU state aid rules.
The European Commission considers that advance pricing agreements (APAs) should not have the effect of granting taxpayers lower taxation than other taxpayers in a similar legal and factual situation.
Apple says EU probe of Irish tax policy could be 'material' on April 29, 2015
Material financial penalties Apple Inc (AAPL.O) said the European Commission's investigation into Ireland's tax treatment of multinationals could have a "material" impact if it was determined that Dublin's tax policies represented unfair state aid.
Apple has warned investors that it could face “material” financial penalties from the European Commission’s investigation into its tax deals with Ireland — the first time it has disclosed the potential consequences of the probe. Under US securities rules, a material event is usually defined as 5 per cent of a company’s average pre-tax earnings for the past three years.
For Apple, which reported the highest quarterly profit ever for a US company in January, that could exceed $2.5bn, according to FT calculations.
"Those that can quickly and clearly explain their tax transactions and strategies — to executives, to their employees and to external stakeholders such as legislators, regulators, shareholders, customers and the media — are better positioned to manage reputation risks."
What is tax avoidance?
"Tax avoidance is an attempt to exploit legislation to gain a tax advantage that was never intended. This often involves artificial transactions that serve little or no purpose other than to produce a tax advantage.
But tax avoidance is not the same as tax planning, which involves applying tax legislation in the way it was intended - for example saving in an ISA (Individual Savings Account) where you don't pay tax on the interest."
Detecting tax avoidance early is a key strand in HM Revenue & Customs' (HMRC’s) anti-avoidance strategy.
The Disclosure of Tax Avoidance Schemes (DOTAS) rules enable the government to react quickly to close loopholes by changing the law, sometimes within days of the disclosure being made. The DOTAS rules mean that HMRC can immediately put resources in place to conduct intensive investigations into avoiders’ tax returns, and so far they have helped to protect billions of pounds of tax.
HMRC regularly reviews the DOTAS rules to make sure that they reflect changes in the market for tax avoidance schemes. Tax avoidance scheme promoters have to give HMRC early information about schemes which fit certain 'hallmarks'.
The promoter also has to provide HMRC at quarterly intervals with details of any clients who have used their avoidance scheme. In addition, anyone using a tax avoidance scheme that falls within the DOTAS rules has to tell HMRC about it, usually by including a Scheme Reference Number (SRN) on their tax return, or on a special form, if they don't complete a return.
This along with the information from the promoter allows HMRC to identify tax avoiders. Promoters and users who do not comply with the DOTAS rules face substantial penalties. HMRC never approves tax avoidance schemes.
The fact that a scheme has been disclosed and has been given a reference number simply means that a promoter has complied with their obligations under the DOTAS rules. Every six months HMRC publishes statistics showing the number of disclosures made under these rules.
You can find other related information from the links below:
- Rules for disclosure of tax avoidance schemes
- Starbucks and Fiat Chrysler’s tax avoidance deals to be ruled illegal |The Guardian
- Guidance on the disclosure of tax avoidance schemes
- Legislation for the disclosure of tax avoidance schemes rules
- Forms to disclose tax avoidance schemes
- Withdrawn Scheme Reference Numbers
- Disclosure statistics
OECD's Action Plan on Base Erosion and Profit Shifting
"Tax Executives Institute, Inc. (TEI) commends the OECD for its thorough overview of the components of a potential mandatory disclosure regime and its comprehensive discussion of various options that countries may adopt to implement disclosure rules into their domestic law.
TEI appreciates tax authorities’ need to obtain a better view into the aggressive tax planning engaged in by some businesses and we do not oppose a mandatory disclosure regime in principle.
Indeed, an objective, clear, uniform, and easy-to-apply mandatory disclosure rule could help level the playing field between multi-national enterprise (MNE) competitors that might have differing appetites for tax risk.
While the flexible approach in the Discussion Draft gives countries the ability to tailor a disclosure regime to their particular domestic tax policy concerns, varied approaches to mandatory disclosure across jurisdictions present several concerns for MNEs."
The Internal Revenue Service said on Friday 18th of September that Coca-Cola owes them $3.3 billion. Coke disclosed that on Thursday it had received a notice from the IRS seeking $3.3 billion, plus interest, after the service completed a five-year audit of its tax years running from 2007 to 2009.
Basically, the IRS is asserting that Coke should recognize some of this income in the US, rather than overseas, and now wants Coke to pay up. The IRS says Coke owes $3.3 billion
Apple’s, Google's and Coca Cola’s tax assessments are material from an annual report perspective besides financial risks contain reputational risks.
- Italian tax police believe Google evaded 227 million euros in taxes.
- Apple has agreed to pay €318m (£235m, $348m) to Italian tax authorities following a two-year fraud investigation, according to reports.
- Google agreed to pay the UK treasurer £130 million ($185 million) in back taxes, covering the period since 2005, and to also pay higher taxes in the future.
- France is seeking 1.6 billion euros ($1.76 billion) in back taxes from U.S. Internet giant Google. Although the tax topic is related to the existence of a permanent establishment in France or not, it is at the end of the day a TP question in the sense what would have been the proper transfer pricing between a French and a foreign subsidiary. Investigators raid Google Paris HQ in tax evasion inquiry (May 24, 2016 - Reuters).
- Facebook (FB, Tech30) disclosed on Thursday that it could owe billions due to an IRS investigation into the way it moved assets to an Irish subsidiary to avoid higher taxes.The IRS tax penalty could total $3 billion to $5 billion, plus interest, according to a Facebook filing with the Securities and Exchange Commission. If so, Facebook says the penalty could have a "material adverse impact" on its financial position. CNN Money
About change and competencies
Based on the above, effective tax advice by a tax professional should nowadays not only address the ways of how not paying more tax than necessary and evaluate associated tax risks of implementing such tax planning schemes (rate level of tolerance on a risk scale), but should also take in consideration the impact of such planning on the reputation of the company if it becomes public knowledge.
That means anticipate actions of the authorities to truly qualify as a trusted business tax advisor.
Corporate reputation and ethical behaviour
- What is the impact if the tax planning becomes public knowledge?
Media coverage of (leaked) tax information
- What are the consequences if a newspaper or politician picks it up to make statements about lack of 'tax morale' and the company is used as case study?
Think about the taxpayer's customers, suppliers, employees, external auditors, financial institutions, the taxpayer's credit rating.
What determines our reputation?
Is that also the real market danger for Apple:
- The mindset of the public opinion?
- What is the impact on Apple's reputation with respect to this kind of stories?
Apple customers and suppliers face increase of taxes and you hear that Apple does not pay taxes (highly profitable). Would that customer have an opinion about tax morale in general and benchmark that with Apple’s tax strategy?
- What is the public opinion about the company's code of conduct?
- Has that opinion changed and what was the cause effect?
- Does that impact Apple's future tax strategy?
In Apple's defense lots of multinationals have been doing the same and I believed myself that change of the tax system - as those structures are often legally allowed - was the only way to close such gaps. At least that was my opinion.
Reputational risk framework
A couple of key assessment questions:
- How do you currently manage reputational risks?
- Who is the owner of reputational risks within the company?
- How are reputational risks manged and measured and how often?
- What is the escalation process e.g. to involve the Board in time / communication to the press, etc.?
The ever changing tax world
For management purposes the objective is to predict the mindset of the public opinion.
A tax professional should contribute and give guidance to achieve that taxpayers do not pay more tax than necessary. Every opportunity has to be considered. At least that was the job description and actually how you could differentiate yourself among competition to make that happen for example via realizing beneficial tax rulings.
In the indirect tax field, especially value added tax, similar aggressive tax structures were for a long time often approved by (national) case law. That has changed when the European Court of Justice ruled a couple of years ago that the tax advantage had to be revoked or denied.
The indirect tax profession had to change as well and reposition itself to 'manage the numbers of indirect tax' - focus more on risk management - and because of new trends relationships with tax authorities became more important to realize the taxpayer's tax objectives.
The tax function's focus is traditionally on managing financial/compliance risks ('what is material and what is not') and nowadays you definitely have to take reputational risks in consideration due to:
- tax transparency statements, publishing tax strategy, DPT (UK/AUS), CbCR, anticipate e-audits, enhanced relationships initiatives between tax authorities and taxpayers: Chapters 'Tax Transparancy' and 'Enhanced Relationships'.
Adapting asap to this new tax world is essential (a survival of the fittest) and that means as well a different skill set/approach. What you do or don't do as tax function could impact other stakeholders nowadays even more including the Executive's own reputation.
That has as consequence that the external tax consultant has to adapt to that new tax world as well. When writing a tax technical advice (tax planning) a risk assessment should automatically be performed by that advisor (such as reputational impact: pros/cons analysis).
Write a problem statement and business case: consider the impact on those KPIs of finance own objectives The tax professional of the future will in my view be more tax business consultants and operate similar like the Accenture's of this world. At least that way of working would be the differentiator market wise. Being that business consultant you need to take the time for example to read a company's financial report and be present during investors calls, etc. That is translating it into action and facilitates that tax and finance really can understand each other.
To get actually aligned and team up with Finance/Executive you need to invest and try to understand their position and KPIs both as in-house tax function but also as tax advisor.
That could be one of the root causes why very often financial transformation projects in practice go wrong: a simple disconnect causing that not all relevant priorities are taken into consideration during feasibility, design and execution.
The new trend is to have an open dialogue between revenue bodies, taxpayers and tax intermediaries. OECD promotes ‘enhanced relationship’ (OECD Report: Study Into The Role of Tax Intermediaries). Even if the authorities have not embraced such an approach (yet), a proactive mode and using elements of this way of working might not only safe time and money, result in a good relationship but as well mitigate reputational VAT risks.
- The changing tax world and taxpayer's impact
- Tax rulings and other measures similar in nature or effect
- Anticiperen op onze 'nieuwe' belastingwereld
- BEPS 2015 Final Reports
- UK - Improving large business compliance
- Developing a common framework for disclosing tax information
Written by Richard Cornelisse
Richard advises multinational businesses in improving the efficiency and effectiveness of their Indirect Tax Function and Tax Control Framework.
He started his career as a manager at Arthur Andersen and then became a partner in EY where I led the indirect tax performance team for Netherlands and Belgium. Currently he is a senior managing director of Phenix Consulting.
Richard has over 20 years’ experience advising clients on international VAT issues. He is specialized in the tax aspects of financial transformations, shared service centre migration, and post merger integration work. Richard is also somewhat of a mentor, giving back to the profession. If you are interested in conversation and discussion, please feel free to contact him.
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Compliant tax software solutions for the global management of tax processes
In essence, HRMC’s increases its expectations towards large businesses with regard to a more and more transparent tax management strategy. However, the publication of a tax strategy will clearly not be sufficient. It is just the starting point for the provision of a clear picture about the risk management and controls in place of tax relevant processes. The daily management turns on the radar.
State-of-the-art tax compliance management software is required.
In difference hereto, the view into the current daily practice provides a different and non-compliant picture:
Widespread use of Excel spreadsheets, decentralized storage of tax relevant documents, lack of documented controls, lack of automation, global lack of tax compliance software tracking individual changes and filings, lack of standardized reports immediately available upon request, lack of in-built double-checks for the calculation of current and deferred taxes on reporting entity level, lots of tax relevant data stored at external outsourcers (e.g. external tax advisors and accounting firms), several tax software tools in place at various locations which are neither interfaced among each other and with the ERP systems in place, etc.
It is obvious that tax departments which are not adapting its process management to the requirements addressed by HMRC and other tax authorities may struggle with regard to compliance, efficiency and transparency.
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