Protecting reputation and managing communication on tax matters for ESG ratings and Pillar 2 disclosures

Over the last decade, the Organisation for Economic Co-operation and Development (OECD) and the European Union (EU) have made significant developments regarding tax transparency regimes and the exchange of information between tax authorities.  However, these developments are being taken further in the drive for increased transparency and public availability of such information, particularly in relation to environmental, social and governance (ESG) reporting.

Indeed, several ESG reporting standards include tax as material. Notably, the Global Sustainability Standards Board (GSSB), which is an independent international organisation, provides a full range of reporting standards aimed at helping organisations communicate their contribution to sustainable development. In particular, companies committed to the Global Reporting Initiative (GRI) standards will have identified taxation as a material topic based on GRI 207 standard.  This standard has required organisations to disclose key points of their tax policy and country-by-country reporting (CbCR) related material in their sustainability report since at least 1 January 1 2021.

However, in the near future, tax transparency will impact a greater range of companies.

The most imminent public transparency reporting requirement is the publication of CbCR data in the EU, with the exception of companies in the financial sector. The public CbCR directive was passed in December 2021 and must be transposed by the EU-Member States by the end of June 2023 to enter into force from 1 January 2024.

Public reporting of CbCR information is less detailed than non-public CBCR reporting.  For example, the revenue breakdown between related parties and third parties is not included in the public CbCR. However, public CbCR presents a risk in that misleading conclusions could be drawn from the analysis of this less detailed, publically available information.

Groups should, therefore, be prepared to explain the reasons for certain discrepancies.  An example might be an explanation of the relationship between the tax due, the tax paid and the effective tax rate (ETR).

The second noticeable change is the amendment of the IAS 12 standard related to the disclosure of Pillar 2 outcomes in published financial statements. The suggested amendments include the disclosure of jurisdictions where a group ETR is less than 15%, and the top-up tax that would be due by a group subject to Pillar 2 rules.

If you wish to know more about the content of the IAS 12 amendment, we refer you to our “Beyond the GAAP” Newsletter of April 2023, which details the essential provisions.

We regularly see that, even without the release of mandatory public tax information, groups can be subject to public exposure on tax-related matters, which could well impact their reputation, as witnessed by the Panama Papers, the Luxleaks or, more recently, on-site tax investigations in several banks.

In addition, with the increase of penalties for non-compliance and changing views on attitudes to tax avoidance, tax communication should now be a priority.

Our view is that these obligations should be turned into opportunities rather than constraining factors. By offering clear explanations of the group’s tax approach, tax managers can get ahead of the game on tax information communication which will help to limit questions or misinterpretations. In addition, available public communication is also a key factor in a group’s ESG rating.

It will also be beneficial for groups to communicate internally with employees on their publicised business, financial and fiscal risks. Tax authorities will use all available public information in the context of tax audits. This includes, for example, LinkedIn profiles to determine the functional profile of the company.

For further information on, or assistance with, the preparation of the tax communication in the context of an ESG rating, please get in touch.