The importance of being tax transparent

The general perception is that the onus of sustainable development is solely on governments. This is far from the truth. In fact, low-income countries tend to have a lower share of government expenditure relative to private expenditure. On the other hand, public expenditure in high-income countries tends to be more focused on social protection which comprises the social aspect of environment, social and governance (ESG). It is about time that the responsibility of sustainable development be shared between government, businesses, and citizens for effective action on ESG.

Interestingly, the heightened concern about ESG has been limited to the environmental aspects only. Governments and businesses have pledged their commitment to ESG mostly through their net-zero commitments and are increasingly mulling over various policy designs (including in respect of carbon taxes and carbon markets) to reduce carbon emissions. These emerging trends in government policies require businesses to anticipate, participate in shaping and factor the same in their strategy to make businesses sustainable and competitive. Such policy designs are typically based on a system of incentives and disincentives which creates both opportunities and risks to existing business models. Most of these incentives and disincentives are in the nature of taxes, subsidies and other non-fiscal regulations (e.g. regulations around waste, water, recycling, financing). The wider stakeholder’s expectation from businesses in respect of taxes over the years has moved beyond the expectation of regulators in this regard.

In the last decade, a remarkable body of work has been developed by institutions such as the Organisation for Economic Cooperation and Development (OECD), United Nations (UN) and Global Sustainability Standards Board (GSSB) to create awareness among stakeholders, policymakers, the media and general public about the need for transparency and expectations from multinational enterprises to pay their fair share of taxes. 

Already the OECD G20 Inclusive Framework require in most of the countries businesses to report key economic and financial indicators and taxes paid in each jurisdiction as a part of BEPS Country by Country (CbC) reporting. 

More recently, in 2021, the European Union (EU) approved a new directive on public CbC reporting which require multinational groups with a total consolidated revenue of at least EUR 750 million to publicly disclose key economic and financial indicators along with the corporate income tax they pay in each EU member state as well as in each of the countries that are inter alia on the EU list of non-cooperative jurisdictions for tax purposes. This would make new information and data available in public domain which may be accessed by all stakeholders including community of investigative journalist, NGOs, competitors, industry bodies and variety of fiscal and non-fiscal regulators. The enforcement of the regulations is still a few years away and hence it may be worthwhile for businesses to gear up for a more balanced and matured outlook in their disclosures and documentation lest such regulations fuel unproductive work.

Similarly, the UN Principles for Responsible Investment (PRI) (2015) provide guidance on what investors need to know with respect to encouraging responsible tax behaviour. A subsequent progress report on ‘Advancing tax transparency outcomes from the PRI collaborative engagement 2017-2019’ was published by the PRI in 2020. 

The assurance on responsible tax behaviour and governance is also being followed by tax administrations across the globe to risk profile the taxpayers and tailor the audit methodology.  For example, the recently updated Goods and Service Tax Audit Manual in India prescribes the methodology to obtain input on the tax controls and IT system implementation and processes around this to obtain an assurance on quality of reporting in tax returns. 

It is envisaged that more and more regulators would rely on verifiable disclosures in respect of tax strategies, tax policies and internal control in future. This would put the businesses which are more matured than the others and give adequate public disclosures (mostly voluntary so far) on a different pedestal than the businesses where the tax controls and governance appear opaque. 

A significant initial work in tax transparency was done with the release of GRI 207 by the GSSB’s Global Reporting Initiative in 2019.  GRI 207 is the key public global standard for comprehensive tax disclosures.

The key elements of GRI 207 reporting encompass the qualitative reporting by businesses in respect of their (i) approach to tax, (ii) tax governance, control, and risk management, (iii) stakeholder engagement and management of concerns related to tax, and (iv) country by country reporting.

Other major global initiatives include the propagation of the metric of Total Tax Contribution (TTC), which was presented at the World Economic Forum (WEF) in Davos in January 2020. TTC requires multinational businesses to report geography-wise analysis of the taxes borne and taxes collected on behalf of the government.

All of the above initiatives are germane to the fundamental premise that taxes are the most important source of revenue for governments to fund welfare programmes and businesses are obligated to society at large to contribute fairly as well as transparently. Therefore, it is of paramount importance that ESG commitments of businesses transcend net-zero commitments and include tax transparency.

The adoption of a transparent tax reporting framework also provides crucial inputs to ESG rating agencies to analyse the inherent threat to sustainability faced by businesses from aggressive tax policies.

Australia and the UK have been forerunners in imbibing these standards to develop tax transparency codes. The Australian Tax Office is mandated to publish the public information made available to it by large companies 

The Voluntary Tax Transparency Code was adopted by Australia in 2016 to guide medium- and large-sized corporations on public disclosure of tax information. The code gives a set of principles and minimum standards developed by the Board of Taxation. The voluntary framework is being steadfastly adopted by large companies in Australia.

Similarly, the UK has introduced legislation in 2016 requiring qualifying groups (typically companies with a turnover of over GBP 200 million) to publish their UK Tax Strategy. Other countries like the Netherlands, Poland and Spain have also introduced frameworks which solicit cooperative action from businesses to increase awareness about sustainable tax practices and encourage voluntary tax reporting to stakeholders.

In the Indian context, the introduction of the Business Responsibility and Sustainability Reporting (BRSR) by listed companies has been one of the key initiatives to engender ESG consciousness amongst businesses. The BRSR has been made mandatory for the top 1,000 listed companies (by market capitalisation) from FY 2022–23 onwards. BRSR may be done voluntarily by businesses for FY 2021–22.

BRSR encompasses a wide range of ESG aspects like gender diversity, waste management and greenhouse emissions based on globally accredited standards. However, BRSR has steered clear of stipulating any framework for increased tax transparency and reporting. 

Even in the absence of a legislative framework, companies like Cipla and Vedanta in India have followed in the footsteps of large tax transparent companies such as Johnson & Johnson (US) and Unilever (Netherlands) in terms of being pioneers to adopt the GRI 207 standard for their tax disclosures much before the introduction of legislation. 

These voluntary tax disclosures by businesses signal an era where businesses showcase their relevance to society by disclosing taxes as a direct indicator of their contribution to all stakeholders (e.g. customers, vendors, regulators, employees and investors) rather than as a statutory obligation. It also enables businesses to additionally channelise their ESG contribution far more quickly as compared to other interventions on climate and net zero which tend to be discernible to stakeholders over several years.

Voluntary tax transparency related information also serves the interests of stakeholders by making available high-quality information for deals. Tax transparency disclosures augment classical models which analyse value creation through better productivity, better customer experience, management of inventory cycle, better financing structure, etc.  Additionally, the adoption of a prescribed framework like GRI 207 for tax transparency allows comparability on taxes paid, disputed taxes, gap in tax rate and actual tax, and tax choices across industries and geographies.

Furthermore, increased tax transparency disclosures by businesses based on global best practices may serve as an effective tool for governments, which face the dilemma of reducing the compliance burden and enhancing tax disclosures.

In conclusion, it is time for businesses to take stock and gear up by creating capacity and information system to anticipate new taxes and regulations around ESG and ability to factor this in their business planning. Also, the harder look at verifiable tax strategy, tax policies where implementation and control framework would be in order to get more deliberate assurance on tax behaviour and governance. In the absence of statutory requirements on disclosure of key matters, this is the time for businesses to make the choice of adopting voluntary disclosures progressively to be able to meet the requirements of wider stakeholders including investors, customers and employees. Regulators would be well advised to encourage voluntary disclosures by prescribing non burdensome disclosure framework to ensure uniformity in disclosures businesses seek to make in regard to tax behavioural matrices. Reliable information on societal contribution by businesses by way of taxes can now be made using reasonably matured framework globally available to inform their stakeholders of their contribution. 

The authors are Partners in Price Waterhouse & Co LLP

Views expressed are personal