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Taxes as an ESG topic

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Blog Post: 26 August 2022

Partnerships – check-the-box

Round about 80% of the biggest companies worldwide issue their sustainability report by applying the standards of the so-called Global Reporting Initiative (“GRI”). So far taxes have never played an important role in the sustainability reporting.

However, that has changed: Against the background of public discussions about more transparency in context with tax payments, the role of taxes to finance the state budget and the responsibility of companies in this respect, a GRI standard – covering taxes – has been introduced.

For companies – generally applying the GRI standards to their sustainability reporting – the  standard leads to the following consequences:

  • It is mandatory to examine (and to document) to what extend taxes is deemed to be a relevant topic within the sustainability reporting;
  • If taxes are considered to be material in this sense, companies have to include taxes into their sustainability reporting and fulfill the criteria of the GRI tax standard (GRI 207)

What does ESG stand for and how does this relate to taxes?

At first glance ESC primarily relates to environmental and climate issues. However, as already the abbreviation shows it is more than that and covers three areas: Besides the “E”, which stands for Environment, the “S” stands for Social and the “G” for Governance:

Taxes may not so much relate to the “E” (except in particular areas, where e.g. taxes are imposed on certain energy-intensive sectors or products), but very much to the “S” and the “G” in “ESG”:

“S”- Taxes found the basis for the financing of states and thereby have a very strong influence on the stability of states and their social agenda.

“G” - Being a so-called good corporate citizen and paying a fair share is reflected in a good corporate governance.

So taxes is actually an ESG relevant topic and it is consistent that this is now reflected by dedicating taxes an own GRI standard!

What is required by the GRI standard?

The GRI standard requires a reporting on (1) the approach of a company to taxes, (2) its tax governance, control and risk management, (3) its stakeholder management and (4) its worldwide tax payments as reflected in the country-by-country reporting.

In short the reporting needs to include the following elements:

Approach to taxes

The company has to comment on its tax strategy and outline who – within the organization – is responsible for issuing such strategy and up-dating it. Moreover, the report needs to include the approach to ensure a fulfillment of the compliance duties as well as an explanation on how taxes are linked to the business and the sustainable development strategies of the organization.

Tax governance, control and risk management

This element refers to a description of the tax governance and control framework. The company especially needs to elaborate on: Who is responsible for ensuring a compliance with the tax strategy? How is tax embedded within the organization? How are tax risks identified, managed and monitored? How is compliance ensured?

Stakeholder management

In context with the stakeholder management, the company has to describe its interaction with the tax authorities as well as its approach to exercising lobbying activities. Moreover, it needs to be outlined how external and internal feedback of stakeholders is considered (e.g. how it influences e.g. the approach to taxes).

Worldwide tax payments: Country-by-Country reporting

Whereas the before mentioned aspects are of a rather descriptive nature, the last criterion refers to “hard facts” and the company has to disclose a number of figures for all tax jurisdictions in which the group operates in. The standard provides for a list covering, e.g. the number of employees, revenues from third-party sales resp. from intra-group transactions with other tax jurisdictions or tangible assets other than cash and cash equivalents. Moreover, the company has to provide for some kind of a reconciliation explaining the difference between the actual corporate income tax and statutory tax rate.

What needs to be done?

As a first step, tax department needs to evaluate to what extend the company issues a general sustainability report based on GRI standards.

Secondly, it needs to be determined whether or not taxes is deemed to be a material topic for the particular company.

In most cases it will be hard to argue that taxes are not a material topic especially when the company in general is in a tax payer position.

Thus, companies should be prepared to report on the above outlined aspects.

The first three requirements should be fairly easy to fulfill (especially when the company has already introduced a tax compliance management system), whereas the fourth requirement can be quite a challenge! Of course the company can use the CbCr-data as a starting point. However, the GRI standard goes beyond what is required under the current CbCr-regime (e.g. when it comes to the number of the employees).

Also, the reconciliation – explaining the difference between the actual and the statutory tax rate – requires some effort and a very detailed knowledge about the tax position of the entities in the particular jurisdiction. Thus, the companies not only have to be prepared to have the relevant data available, but also to analyze it prior publishing it. The latter aspect especially applies against the background that the data becomes publicly available and will be analyzed by NGOs, rating agency, etc.