The Case for a Tax Control Framework

November 2021

BY

Michael WilliamsTax Partner, National Practice Leader

TAX_Case-for-Tax-Control-Framework_Webpage-Header.jpg

The global nature of today’s economy elevates the tax function as an area of risk for organizations. At the same time, management increasingly looks to the tax function to add value to the organization, as evidenced by the 49% of respondents who identified an enhanced role of tax as a strategic partner in the 2021 BDO Tax Outlook Survey.

A tax control framework (TCF) provides the building blocks as to how tax operates within the company. Among other things, an effective TCF will foster a tax risk communication mechanism and clearly defined processes and controls to identify and manage operational tax risk. Key benefits of an effective TCF include:
  • Provides clarity, confidence and transparency in an organization’s tax operations;
  • Allows for an optimized tax delivery model through better use of people, processes and technology; and
  • Provides a clear vision and mandate in meeting current and future tax requirements.

Essential components of an effective TCF are:
  1. Establishment of a tax strategy – clearly documented vision of the tax function that sets out guiding principles.
  2. Comprehensive application - implementation across all transactions and all tax matters in a consistent and predictable manner and embedded into the day-to-day actions and culture of the tax department.
  3. Assignment of responsibility – availability of adequate resources and clear assignment of responsibilities.
  4. Documentation of governance – mechanism in place for rules and reporting and understanding the consequences of noncompliance.
  5. Testing - compliance with the policies is monitored and tested.
  6. Assurance - assurance to internal and external stakeholders that the TCF is executed in a manner consistent with the organization’s “risk appetite.”
 

Why Should Controlling Tax Risk Matter?

There is no denying that the global tax landscape has become highly technical and complex in recent years. Rapidly proliferating changes to tax rules (both domestic and international), regulations and guidance, as well as heightened tax authority scrutiny driven by more effective information exchanges, are intensifying the pressure on tax departments. Concrete examples of recent initiatives that are requiring tax departments to revisit and rethink their approaches include the OECD’s BEPS project and the ambitious initiative that addresses the challenges of taxation of the digitalized economy, with a reallocation of profits to market countries and the introduction of a global minimum tax (see BDO’s global tax reform insights). Moreover, keeping current on legislative and regulatory requirements—combined with the pressure for the tax department to add value through planning opportunities—is no simple task. The costs of noncompliance can be severe—investigations, audits, tax assessments/adjustments, penalties, controversies, damage to corporate reputation, etc.

These types of challenges can potentially create heightened levels of operational tax risk within a company’s tax function. These risks associated with tax can be addressed by taking a holistic view of the tax function and adopting a total tax approach, which includes an effective TCF.

Tax risk management is not a new concept, but it has evolved over the years. Many companies have risk management policies in place, some in the form of TCFs. The OECD has previously outlined the features of a TCF and has provided guidance for businesses to design and implement a TCF tailored to their particular circumstances.

A TCF — as envisioned by the OECD — is a way for taxpayers, stakeholders and tax authorities to work cooperatively to ensure that an organization has proper controls in place to effectively comply with tax laws and regulations. While the U.S. does not mandate that companies implement a TCF or publish a formal tax policy or risk statement, other countries have trended in this direction. (However, there have been advances in tax risk management in the U.S. in more focused areas, such as internal controls for public companies, expanded disclosure requirements under U.S. GAAP and local tax regulations, etc.).
 

How Do I Know if My Organization Needs a TCF?

Organizations are realizing it may be time to implement a TCF. Anticipation of tax risk management and tax governance being fully embedded in their organization in two years’ time was identified by 52% of respondents to the BDO Regional Tax Outlook 2020, Americas Report.

The key starting point in determining whether a TCF is needed is understanding the current state of the tax function. Factors that may indicate your organization needs a TCF include:
  • Significant or unexpected tax examination findings.
  • High tax department turnover, leading to loss of institutional knowledge.
  • Findings from auditors indicating internal controls around the tax provision may break down or fail.
  • Rapid growth, either organically or through acquisition.
  • Increasing board or stakeholder inquiries related to tax.
  • Effective tax rate out of line with peer companies.
  • Organizational transformation such as an initial public offering, process overhaul/efficiency initiatives, C-suite turnover or ERP system change.
  • Changes to business operating model, supply chain or other significant business factors.

By creating or making enhancements to a TCF, a company can immediately minimize the potential that any of these would adversely impact the company.