Transform for now or for what’s next? Improving tax compliance readiness

First in a three-part series discussing regulatory, legislative and market complexities affecting tax compliance and leading company responses.

Three questions to ask

• What are leading organizations doing to better prepare for the potential impacts of a variety of policy outcomes?
• How are organizations shifting resources and skills development to address the complexity in today’s dynamic tax environment? 
• How can data and technology help drive an organization’s tax department transformation?

Transform for now or for what’s next? Perspectives on improving compliance readiness in the tax function

Faced with increasing tax complexity, new data and technology requirements, and challenges finding and retaining talent, companies now more than ever need to be thinking about updating their corporate tax compliance functions. In this series, we examine an evolving tax compliance environment that rewards agility, new skill sets and the ability to do more with less. In each article, we examine different factors affecting today’s tax departments and provide insights on how they can transform and thrive in the tax compliance landscape of today and tomorrow. This first article in the series focuses on regulatory, legislative and market complexities affecting tax compliance and how leading organizations are responding.

Introduction

In a world marked by unpredictable tax policy shifts and an unprecedented number of new regulations, corporate tax compliance has become integral to a company’s broader strategy and risk management. Tax policy uncertainty at the global, national and state levels and the fast pace of legislative and regulatory change mean compliance departments must be prepared to pivot quickly and provide meaningful insights using a wider range of skills and tools.

Frequent updates to forms and processes, greater complexity and new data requirements make this a transformative period for the tax compliance function in which agility is essential. At the same time, companies operating in an unpredictable economy and an inflationary environment with higher borrowing costs are seeking ways to make more efficient use of scarce resources. In some cases, that may mean collaborating with third parties for corporate tax compliance functions. Companies that do not anticipate and adapt to these broad market forces are likely to face greater compliance risks in the future.

The challenges

Tax policy uncertainty and risk

Growing tax policy uncertainty makes it more important than ever for companies to be able to react quickly to change. In the US, the path for tax legislation has been buffeted by political headwinds that are difficult to predict. Roughly a third of respondents to the 2022 EY Tax and Finance Operations Survey (2022 EY TFO survey) indicated that an inability to identify, evaluate and respond to legislative and regulatory change was the biggest barrier to delivering their tax and finance function’s purpose and vision.¹

Governments are also becoming more sophisticated in their approach to enforcement, collecting and analyzing data from new required disclosures and sharing that information with each other. In the US, the Inflation Reduction Act of 2022 (IRA), enacted on August 16, 2022, increases IRS funding by $80b over the next 10 years. Of that, $45.6b is earmarked for enforcement, which includes examinations, collections, criminal investigations, legal and litigation support, and digital asset monitoring.

The additional funding may result in more audits of complex partnerships and large corporations. According to the 2021 EY Tax Risk and Controversy Survey, even before this recent funding boost, 53% of tax leaders said they expected greater enforcement in the next three years.

At the global level, the Organisation for Economic Co-operation and Development (OECD) Base Erosion and Profit-Shifting (BEPS 2.0) initiative is another example of policy uncertainty that companies must navigate. The BEPS project’s Global Anti-Base Erosion (GloBE) rules may present particular compliance challenges for multinational companies. The rules seek to introduce a global minimum effective tax of 15% through an Income Inclusion Rule (IIR) and an Undertaxed Payment Rule (UTPR), and according to a July report of the OECD Secretary General, most countries are planning for the rules’ entry into force in 2024.²

Multinational companies should start thinking about whether they will be in scope and, if so, how to prepare for the complex tax reporting and compliance requirements involved, even as interpretive guidance and administrative processes supporting implementation are ongoing. Now is the time to analyze which systems and process modifications may be needed to capture the data that will be required for compliance with these potential new rules, and where they might apply.

At the state level, changes to tax regimes and policies are often adopted more quickly than federal policy changes, adding yet another layer of compliance complexity. As states decouple from federal provisions and respond to the state consequences of the Tax Cuts and Jobs Act (TCJA), companies must contend with more state computations, forms and disclosures. Shifting international tax policies also have state income tax ramifications. Furthermore, states have also taken steps to adapt their tax policies to new ways of working in the wake of the pandemic. All of these trends require dynamic monitoring and add complexity with respect to tax compliance. 

Shifting regulatory requirements

New IRS and state reporting requirements are taking up more of companies’ time and budgets, and companies believe this trend will continue to accelerate. According to the results of the 2022 EY TFO survey, 80% of respondents indicated that enhanced tax disclosures or public reporting would increase the tax and finance function’s time spent on governing and reporting to key stakeholders. They face expanded federal computations and reporting, including significant additional international compliance forms resulting from the TCJA regulations.

Environmental, social and governance (ESG) considerations are also becoming an increasingly important element of tax compliance. In the 2022 EY TFO survey, 63% of respondents indicated climate and environmental issues would increase the tax and finance function’s time spent on governing and reporting to key stakeholders.

What we are seeing

The complexity of managing increased reporting burdens puts pressure on the tax compliance department. Several developments are driving this complexity, including:

• Increased effort and coordination needed to complete today’s tax compliance activities
• Tax authorities’ use of digital tools and advanced analytics to complete compliance reviews
• Increased data sharing across tax jurisdictions
• Greater standardization with an increased emphasis on consistent data across all tax return flows, including federal, international and state filings

These trends are increasing workloads and costs for companies.

“Our clients are telling us they have to spend significantly more time to achieve compliance, making it even more difficult to focus resources and energy on higher-value activities,” said Jill Schwieterman, EY Americas Global Compliance and Reporting Leader. 

According to the 2022 EY TFO survey, 60% of respondents said complying with emerging digital tax filing requirements has increased the workload of their tax and finance function, while 59% said it has increased the cost of running the tax and finance function, and 59% said it has increased the organization’s risk profile.

Actions to consider – how leading companies are transforming their tax compliance function

There are ways companies can respond to the complexity of today’s tax world, building greater agility into their tax compliance model.

“Companies that are proactive and willing to re-examine long-standing practices and processes will be rewarded with a compliance function that is better able to withstand the uncertainties of the future,” Schwieterman said.

Leading companies are employing a number of approaches to transform their tax compliance function. These include:

• Tax planning – Now is the time to revisit existing structures to see if they are still suited for today’s and tomorrow’s evolving compliance environment. Combining the right business and analytical skills with the latest technology to focus on consistency in compliance and the company’s broader strategic objectives can help navigate an unpredictable environment. Engaging in modeling and scenario planning can help companies understand and prepare for the potential impacts of a variety of potential policy outcomes on their specific situations.
• Tax policy engagement – As tax policy evolves, companies need to know what is happening in real time and anticipate future legislative developments so they can integrate these considerations into their planning. Engagement with groups of similarly situated stakeholders and policymakers can help support meaningful policy development that takes all perspectives into account.
• A focus on high-value activities – Gone are the days in which manual validations and reviews were the primary focus of the tax compliance function. In the current environment, some of these lower-value and low-satisfaction tasks can be automated so teams can focus more resources and skills development efforts on higher-value activities, such as planning and structuring operations to take into account the latest legislative changes and potential incentives.
• Data gathering – The tax compliance team should work closely with the IT department to identify the appropriate source of detailed data that will be consistent, readily available upon examination and accessible across all tax flows — at the federal, international and state levels.    
• Technology enablement – Streamlining systems and using digital platforms and solutions can be a key part of the tax compliance function of the future.
• Outsourcing or co-sourcing arrangements – An assessment of resources and available skill sets within the organization may lead some to consider collaborating with a trusted third party. Turning to an outside team that may have deeper experience and access to technology platforms or resources in certain areas can allow the in-house team to focus on critical or sensitive company-specific work, while more general tasks are outsourced.
• Use of shared service centers and lower-cost jurisdictions – For multinational companies, the use of shared service centers or the ability to work with a third party that employs resources in lower-cost jurisdictions to consolidate more routine tax compliance tasks can also create efficiencies, freeing up resources for higher-value strategic activities elsewhere.