British American Business 2009 | Practical Advice | Tax

Tax

Managing tax in the downturn:
US inbounds in the UK

Sally Bradley and Mike Curran of PricewaterhouseCoopers consider how UK-based American business should face the current economic climate

With most major economies now in recession, US companies in the UK need to take decisive action and review their business strategies to make the most of the opportunities available: the best prepared businesses will survive the bad times and be in a stronger position for the future.

US businesses in the UK face a multitude of challenges in the current climate. They have no choice but to tighten their belts as the credit crunch bites; financing is much more difficult with the cost of money more expensive and not as freely available, and the pressure is on to evolve and focus on cost reductions and increasing margins. Tax is a big cost and as such there should be an emphasis on managing tax like any other expenditure.

As international business has grown, tax strategy, planning and compliance has become more complex, involving multiple intricacies that need to be addressed and managed carefully. Companies must deal with greater scrutiny of their tax affairs, justifying their tax strategy to an increasing number of stakeholders with greater transparency and communication of their total tax contribution. They also face considerable uncertainty as more rigorous focus on taxes leads to more local and cross border tax issues to be resolved.

Directors need to equip themselves with the right tools and approaches to manage tax in such turbulent times. Below we highlight some of the ones that we think should be in the tool box.

How to manage financing and deals as the impact of the credit crunch sets in

In recent times, obtaining credit was easy. Traditional tax planning matched borrowings against operating profits arising in local jurisdictions. Now, with it being much harder to obtain external finance, managing intra group financing becomes crucial. Considering refinancing options may be a necessary part of ensuring that financing arrangements are tax efficient, with the overall aim of maximizing available tax deductions in high tax jurisdictions (without creating losses that cannot be used) and mitigating the tax impact of interest income.

While it is clear that the downturn continues to impact your options, debt funding is still available to businesses with a well thought out plan and a robust cash position. However, as tax authorities have focused increasingly on anti-avoidance in recent years, it is plausible that they could decide to change their approach to what constitutes arm’s length rates or they could require higher levels of equity, thereby restricting debt deductions; you only have to look at the UK proposals on interest capping.

How to realign bus iness plans to make them more tax efficient

Companies should challenge themselves about how they can simplify their business models to improve efficiency. For example, a company may look at reducing the complexity of decision-making processes and corporate governance compliance which can present significant legal, processing and systems maintenance costs for multinational companies.

Simplifying business models can enhance investor confidence of overly complex structures, improve control and the risk profile, and it has the potential to reduce the volatility of results – all of which are beneficial in uncertain times.

Directors should ensure that they are engaged with business change proposals. They should ensure that operational change does not create tax exposure, risk or incremental cost and takes the necessary steps to defend against possible tax authority enquiries. With careful implementation, the opportunity provided by business change can be used to optimize the tax position of that change and create long-term benefits to the tax position of the group.

How to improve the effectiveness of tax functions and how technology can help

Leading tax functions are those that deliver the most value to their organizations. For tax functions to add value, they need to understand the organization’s expectations and be aligned with the objectives of the key stakeholders. A tax function should understand the company’s corporate governance requirements, leadership approach and key communications. Developing and implementing a comprehensive global tax strategy is a complex challenge which requires an integrated approach and an understanding of many interdependencies.

It involves various steps:

• Studying the global profit and tax drivers;
• Setting goals;
• Identifying strategies and planning techniques;
• Weighing and choosing alternatives;
• Implementing the plan; and
• Periodically reviewing the plan’s performance.

It is important to assess whether the tax function delivers control, works efficiently and provides insight to the business:

• Delivering control ensures that there are no surprises and that risks, penalties and interest exposures are minimized;
• Efficiency is required to manage costs and processes; and
• Providing insight is necessary so that the business has the right information to make the best post-tax decisions.

In turbulent times managing these areas becomes even more important. If no action is taken to reflect these challenges or changes then there is a risk that current processes may no longer work effectively and the tax function will become inefficient for the organization.

However, there are also opportunities. For example, by assessing the effectiveness of the tax function and looking at the processes, systems and technology, it may be possible to leverage off new technology and provide a better platform to deliver its strategy. This could include updating tax reporting systems so that the demands of increased focus on reporting can be met without increasing head count or by using workflow tracking tools to monitor compliance status. It would offer greater transparency of risks and manage standardized processes.

Directors could also assess the current business and finance function models and identify potential enhancements to optimise processes and the use of technology.

How to manage tax efficiency

Companies are starting to recognize the benefits of managing tax efficiently in a downturn to obtain short-term cash flow benefits from managing their tax payments. In hard times cash is king, and as such, opportunities to focus on actions that either produce an immediate saving, or provide short-term cash flow benefits are common.

For example, resolving long standing tax investigations that have been provided against will result in a release of provisions that can improve both cash flow and profits. A more UK-specific technique would be to reassess the calculations of quarterly instalment tax payments, using more timely and accurate financial information rather than using budgets or prior year results which do not accurately reflect the impact of the downturn.

Other techniques include ensuring that the effect of reliefs, allowances and losses are maximized in the current year and that you have fully reviewed your research and development opportunities. There are a number of different ways that these techniques can be achieved and seeking early advice on such matters is always recommended.

Managing indirect taxes can have a direct impact on both cash and the profit before tax line in the accounts. Certain types of business pay substantially more in indirect than direct taxes. Groups need to know what their indirect tax bills are and how they can manage them more effectively.

How to deal with the key issues tax authorities are likely to focus on

Directors are already under pressure from legislative change and changes in the approach taken by tax authorities. The approaches taken by tax authorities are becoming more aggressive and more litigious. There has also been an increase in co-ordinated global activity of tax authorities in recent times with extra focus on antiavoidance and increased disclosure required. What changes will we see as a result of the current economic turmoil? Tax authorities are agencies of the treasury department in each country. With a downturn in economic activity, there is no doubt that tax receipts will be under pressure, which will lead to increased focus by the tax authorities on compliance and possibly back door revenue raising measures, including an increase in penalties being levied.

We expect tax authorities to increase their focus on debt structures and restructuring, examining losses and questioning whether they have arisen from valid activities. We also expect greater focus on the arm’s length nature of transactions and the underlying substance leading to increased transfer pricing scrutiny and audits. Where intellectual property is migrated as part of tax planning, questions about transfer pricing focus on exit charges and the claw back of reliefs are likely to arise.

As businesses seek to reorganize their operations to obtain competitive advantage, tax authorities will increasingly look to the substance and the transfer pricing arrangements in place, no doubt with reference to the OECD discussion draft released on the topic. In turbulent times it will be necessary to protect existing parent and local country tax attributes where possible. Implementation of tax planning should therefore be robust and properly documented with careful ongoing management and assessment.

Summary

Managing in a downturn is a big challenge for many of today’s executives who have built their careers during 17 years of economic growth. Managing tax in a downturn can have a significant, positive impact for a US multinational company. It is another piece of the jigsaw to building a stronger business for when the economic situation starts to improve.

PricewaterhouseCoopers LLP helps clients with their strategy, finance and funding, and operations, people and stakeholder management – all of which are critical issues that impact all companies at this time.

For further information, please contact:
Sally Bradley
Tel: +44 (0) 20 7213 5446
E-mail: sally.a.bradley@uk.pwc.com
or
Mike Curran
Tel: +44 (0) 20 7213 8190
E-mail: mike.curran@uk.pwc.com
at PricewaterhouseCoopers LLP, or visit
www.managinginadownturn.com