The globalization of business is having a profound impact on corporate taxation worldwide, which shouldn’t surprise anyone who covers international tax laws. The impacts on corporations operating in multiple national jurisdictions (which today, especially in Europe, includes a large number of midsize companies) are both positive and negative. Positive in the sense that corporate tax rates, tax benefits, reporting and other aspects of tax regulation are subject to competitive moves by countries as a way of attracting businesses. Ireland, for example, long ago crafted the most aggressively company-friendly tax structure in Europe, but now the U.K. and other countries are reducing rates and providing tax incentives for investment and operations within their borders. Even the United States seems poised to overhaul its corporate tax structure. At the same time, there are negative trends in the sense that increasing government cooperation in areas such as transfer pricing reduces a company’s freedom to optimize its tax incidence by artfully managing revenue recognition.
One might presume that multinational companies are keeping up with evolving taxation trends, but more than two decades of research in corporate financial management lead me to think that’s probably an optimistic assumption. I’ve consistently found that on just about any core finance department process (such as the financial close, planning or treasury management), 10 to 15 percent of companies are operating at a leadership level, another 10 to 25 percent are seriously lagging and the remaining 60 to 80 percent are somewhere in the middle. In other words, with few exceptions a majority of companies can benefit from improving their execution of processes, taxation among them.
The challenge with taxation is less compliance than optimization. Compliance is something that most tax departments do reasonably well. But while important, compliance is a tactical issue; optimization is more strategic. Unfortunately, the potential “pain” of noncompliance appears to be a more obvious and compelling motivator of tax and legal departments and their resource allocation than the potential benefits of tax optimization. To the extent that senior finance executives pay attention to tax issues, they defer to these experts in designing their tax agendas. Moreover, the cost of noncompliance is much more readily assessable than the benefits of tax optimization. And there is the basic roadblock of figuring out where to begin an optimization effort.
The precise answer to “where to begin?” differs from one company to the next, depending on existing resources, practices and IT infrastructure as well as circumstances. The most important question, which should be answered first is, “What’s it worth?” This needn’t be an exact figure, just a reasoned, order-of-magnitude ballpark number. Arriving at this is likely to involve investing hours of internal staff and external tax expert time. Yet it seems to me that this would be a small expenditure relative to the substantial payoff that some or many companies (I don’t have hard data to prove the point) can realize by taking a more strategic approach to structuring (or restructuring) their multinational operations.
The most obvious and potentially most important payoff from optimizing corporate taxes from a global perspective is an overall reduction in tax expense. It’s best not to assume that production and/or distribution activities are performed at the right location based on after-tax considerations, especially since direct and indirect tax rules and rates change all the time. Another source of value is in optimizing tax risk exposure, even if quantifying this benefit can be difficult. By ensuring a clear, ongoing discussion among senior tax, finance and corporate executives as to the company’s risk appetite with respect to taxes in each major jurisdiction, those managing taxes will understand how aggressively they should handle tax issues. For instance, it’s conceivable that a corporation might find it better to structure transactions to have a material uncertain tax position with a lower value that does not require IRS disclosure than to have a structure that does require IRS disclosure. Here a global perspective is necessary because each country’s situation is different and because few companies explicitly manage tax risk exposure.
Global operations require global tax management. Many corporations can benefit from explicitly managing their tax function in a more coordinated fashion that they do today.
Robert Kugel – SVP Research