The term materiality has many meanings and definitions. Boundaries of materiality are primarily determined based on personal estimations. This can be estimations by auditors, risk management departments, company directors, etc.
The term materiality, used as a quantitative norm, then serves as an approval boundary. Evidently, the materiality used to determine the tax risk appetite of businesses is significantly lower than the materiality used by the external auditor in the annual audit.
The external auditor’s task is only to provide an opinion whether the annual accounts provide a true and fair representation of the company's affairs. He or she is not asked to provide a statement regarding the accuracy or the acceptability of the submitted return for corporate tax, income tax, VAT etc.
The examples of tax situations listed below should, however, also receive full attention from auditors.
These stock market listed companies have after all, been obliged based on the SEC rules to report their risks to their investors:
- Google avoided €227 million in taxes in Italy. Google paid £130 million to the British tax authorities and agreed to pay higher taxes in the future. In France, the tax authorities demanded €1.6 billion from Google.
- Apple paid €318 million as a settlement to the Italian tax authorities after a two-year fraud investigation. Apple missed a deadline to pay €13 million in taxes to Irish authorities in the context of state aid. Due to the special treatment given by the Irish government, the effective tax rate was just 0,05%.
- Facebook (FB, Tech30) disclosed that the IRS conducted an investigation into the way it moved assets to an Irish subsidiary to avoid higher taxes. According to Facebook’s SEC filing, the amount totals $3 - $5 billion, plus interest.
- Coca-Cola was found to to owe the US tax authorities $3.3 billion, plus interest, based on an audit by the IRS. Profits were incorrectly recognized in foreign countries, rather than the US.
In case these tax-related issues are considered individually per county and per company, it could be put into question whether these matters are also material for the auditor. Notably, the media also discuss the reputation of these companies. Any potential reputational damage and/or fiscal uncertainty might impact not only the share price but also external relations including that with the tax authorities.
The loss of tax income due to the movement of assets to low tax rate jurisdictions is conservatively estimated to total between $100 and $240 billion.
The amount of media attention, public indignation and political reactions these cases have received – including for instance that of US senator and (former) presidential candidate Bernie Saunders – emphasize the differences in tax morality.
Why should ordinary citizens comply with tax obligations, while multinationals or soccer players are attempting to avoid paying a ‘fair share’ of taxes by means of tax-saving structures? Both media and politics have given a great deal of attention to cases such as the ‘Panama Papers’, ‘Lux Leaks’, ‘The Netherlands Tax Haven’ and ‘Football Leaks’.
In the context of an investigation regarding state aid, the European Commission states that providing tax rulings (advance pricing agreements; APA’s) should not result in situations in which some taxpayers pay less than other taxpayers under the same circumstances.
As a result of the Panama Papers, many Corporate Service Providers, shell corporations and advisors are interrogated by the Dutch parliament with regard to tax avoidance and tax evasion.
These are companies without any significant assets or activities in the Netherlands that solely serve as a vehicle for shifting interest and royalties within international companies. Due to the application of tax treaties, this construction results in a significantly lower corporate taxes.
During his presidential campaign in 2008 Barack Obama illustrated the issue:
“There’s a building in the Cayman Islands that houses supposedly 12,000 U.S.-based corporations. That’s either the biggest building in the world or the biggest tax scam in the world, and we know which one it is.”
Evidently, we’ve entered a broader discussion, reaching beyond the question of what is tenable based on fiscal laws and regulations. Beside financial risks – that can be material – it concerns reputational damage, which can, as previously mentioned, negatively affect share prices.
Business operations can thus be fiscally appropriate, complying with tax laws and regulations, yet deemed unacceptable according to societal norms. This is a relatively new phenomenon in terms of reputational risks that affects the risk management from the overarching ‘business control framework’.
Questions that need to be asked include for instance: does the current business model still fit the ‘reconsidered’ business strategy?
In terms of tax revenues, a global trend is emerging shifting from direct to indirect taxes. The rates for VAT are increasing, whereas the rates for corporate tax are decreasing. An average multinational has over €5 billion in indirect tax flowing through the business. A mistake of one percent can make the difference between profit or loss. This is material, also for an auditor.
All chapters
- Introduction: Relevant tax data from Transfer Pricing and VAT: explaining the ‘Why’, ‘What’ and ‘How’
- The auditor is not (yet) a risk analyst
- New tax legislation in the UK: 'Tone at the top'
- More attention for Transfer Pricing
- More attention for VAT
- Tax authorities request more, faster and more often tax data
- SAF-T rolled out in more countries
- 'The impact on in-house tax function' and 'Preaudit before submit'
- Realise a joint tax responsibility
- Read: complete article with all chapters and links to follow up articles (in depth)
Above is a translation of article published in Vakblad Tax Assurance. Dutch version can be downloaded for free:
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