Companies Unaware of Inherent Tax Risks
31 October 2011
Posted by: Author: Marcus Botha
Companies Unaware of Inherent Tax Risks
There’s more to tax than simply complying with legislation
The global financial crisis,combined with King III and the new Companies Act, demands greater corporate risk management.However, a lack of inherent tax risk awareness may be counteracting efforts to improve transparency and manage threats,leaving unsuspecting directors liable for negligence.
When it comes to tax there is little focus on tax risk; companies tend to pay attention only to statutory compliance, such as completing and submitting income tax returns on time.Organisations potentially face a whole world of tax risks that must be proactively managed.
Even though companies have aligned with corporate governance principles and new legislation, on average 47% of tax-related activities reside in the operational areas of businesses and therefore outside the control of the tax department.These activities usually are not supported by adequate processes and controls to provide the tax department with assurance from the business’ operations. However, despite the apparent lack of control, the tax department will nonetheless rely on the information received.If companies only control,monitor and report on certain or limited tax risks—such as income tax compliance on statutory returns,which tends to be the main focus area—audit committees won’t be aware of the full tax universe and the inherent risks they face.In such cases, there is no formal control environment to mitigate risks.If the central function is only to control and report on less than half of the tax related activities and associated tax risks to the audit committee, it will not have complete and accurate information.
This false sense of security and lack of inherent tax risk awareness could result in fines or even imprisonment for some directors,who may be found negligent under new legislation.The audit committee needs to therefore demonstrate that it has a robust risk-management process in place to identify, monitor and mitigate risk with effective controls in place,but can’t do this if there is incomplete information or no assurance provided to them on their inherent tax risks.
PwC’ s 2011 Total Tax Contribution survey shows that only 72.99% of respondents have formal tax risk management processes.It also appears that large businesses are not transparent when it comes to their tax affairs—an average of 37.68% indicated that they reported appropriately to stakeholders.This is concerning, as companies are increasingly being required to be more transparent through various corporate governance reform and transparency campaigns.
The internal audit function has a direct line to the audit committee,and it is supposed to provide internal assurance to the committee on the adequacy and effectiveness of the control environment.However, internal audit spends limited to no time on tax controls.Where tax does feature on the audit plan, the focus is only on statutory returns because it generally does not have the tax expertise required to look beyond that.
Audit committees also delegate duties and responsibility to sub-committees and management teams. However, since tax practitioners focus on the tax technical side, they can’t provide the assurance and information the audit committee requires, and fulfil the responsibilities and duties delegated to them. This is because tax practitioners aren’t risk managers,or compliance and governance managers.
Companies need specialists who understand tax, risk, compliance and governance principles. However,in the absence of such specialists, organisations must ensure that risk management,internal audit, compliance and governance specialists work together on tax to provide the audit committee with ultimate assurance and meet their expectations.External stakeholders want to perceive companies as good corporate citizens that contribute to the economy.This is especially relevant in the current economic climate, as governments globally are striving to recover deficits.Corporates can’t afford to take money from the fiscus anymore,due to a lack of formal processes and a tax control environment,because that will negatively impact the economy and their operations.
To be perceived as a good corporate citizen, a company’s annual report has to demonstrate the total tax bill that has contributed to the fiscus.Companies however need to understand that disclosures made in annual reports will be scrutinised.If they want to create the impression that all areas of the business are robust and risks are managed effectively, they can’t have tax operating in isolation.Risk management needs to be applied to tax too to avoid misrepresentation.
Source: By Marcus Botha (Tax breaks)