Tying Together ESG Reporting and Corporate Tax Transparency

The inclusion of tax metrics in environmental, social and governance (ESG) reporting is relatively new. However, tax transparency has long been on the agenda of many businesses and tax authorities. In the context of ESG, taxes paid is one of the ways to frame and quantify a business’s contributions to the economy and jurisdiction in which it operates. Good tax governance and how its tax affairs are managed is often viewed as an indicator of a business’s role in society.

When Voluntary can Mean Leading

Interest in ESG reporting and metrics has skyrocketed in recent years. As historic levels of capital are shifted toward ESG investing, questions are emerging about standards, transparency and comparability of sustainability information. While most sustainability reporting frameworks are voluntary now, for example, the Global Reporting Initiative (GRI) and World Economic Forum-International Business Council (WEF-IBC), they are being widely adopted, and sustainability reporting forms part of an ESG rating. With the inclusion of tax metrics in GRI (GRI 207: Tax 2019) and WEF-IBC, tax is in the spotlight.

Higher ESG ratings can produce a more positive public profile and address investor demands for green practices, which in turn affects access to capital—and tax is a key component of this story. In the US, a number of large multinational companies have faced pressure from investors to disclose more about their tax affairs. Today, tax metrics have little weight in ESG ratings, but when reporting becomes more common or mandatory, this may change.

ESG rating agencies evaluate tax criteria when issuing ESG ratings. The tax criteria evaluated vary, but the common theme is tax transparency and governance. Examples of tax criteria include effective tax rates, tax policies, an effective tax control framework, governance disclosure on commitment to and compliance with the spirit of the tax laws in all jurisdictions, and disclosure of financial assistance received from governments (such as grants and tax reliefs).

Previously, tax information was disclosed predominantly to tax authorities. Now a wider audience, including investors, customers, and employees, is in scope. A strong and consistent tax reporting approach will play an important role in building trust by helping stakeholders understand the tax story in the context of the business’s purpose. For European companies, disclosing tax information is not new and, according to a recent survey, European companies were more likely to disclose tax information in 2021.

From Voluntary to Mandatory

GRI and WEF are dominant players in the voluntary (tax) reporting field, but are not alone. Other examples include the Global Fair Tax Mark and the B Team Responsible Tax Principles, which sees participation from some of the world’s biggest brands, signaling the value of and demand for public tax disclosures.

Some countries have introduced voluntary tax reporting—for example, Australia’s voluntary tax transparency code to complement the mandatory government reporting of taxes paid by certain companies. Tax transparency reporting is also mandatory in some countries—for example, UK companies with a turnover of £200 million ($230 million) or more are required to publish their tax strategy. In some sectors such as mining and metals, voluntary standards are becoming virtually mandatory—for example, the International Council on Mining and Metals expects that members comply with the GRI standards.

As the focus on ESG continues, it is clear that reporting requirements will only increase, including tax disclosures. The number of frameworks continues to rise, resulting in a fragmented landscape and a lack of standardization. Voluntary frameworks vary—for example, GRI supports country-by-country reporting (CbCR) of income taxes paid, while WEF-IBC supports total tax contribution instead. However, work is underway to bring uniformity and comparability to ESG reporting, and hopefully some relief for companies navigating the ESG reporting landscape.

Standing by for Mandatory Standards

From an EU perspective, the proposed EU Corporate Sustainability Reporting Directive (CSRD) should be factored in. The CSRD is a key tenet of the European Green Deal which will see a climate-neutral Europe by 2050 and greenhouse gas emissions reduced by 55% from 1990 levels. The CSRD is expected to come into force by the end of 2022 and EU member states will then have 18 months to transpose into national laws. The CSRD will replace the Non-Financial Reporting Directive.

The CSRD aims to ensure companies publicly disclose information about the risks, opportunities and impacts of their activities on people and the environment. A primary aim is to bring uniformity and consistency to enable better and fairer comparison of sustainable behavior of companies. Currently, tax is not included as a metric. However, this may change as consultations continue.

The ongoing work of global accounting bodies such as the IFRS International Sustainability Standards Board (ISSB) should also be on the radar of tax functions. The efforts focus on extending financial reporting with standards on sustainability reporting, with the inclusion of tax reporting from a qualitative and quantitative perspective. While there will be differences with WEF and GRI reporting, there will likely be some similarities, especially given the collaboration between the ISSB and GRI.

Turning attention back to the EU, it continues to forge ahead with mandatory dedicated tax transparency actions. Public CbCR will come into force in 2024, a proposal on effective tax rate reporting is expected in Q3/4 of 2022, and publishing tax strategies are also on the agenda. Although multinational companies have been familiar with the CbCR concept since 2015, when the Organisation for Economic Co-operation and Development and G-20 countries formally adopted a form of CbCR under BEPS Action 13, the public character is new, and some technical differences apply.

Key questions to consider:

• What does it take to operationalize public CbCR?
• What is the impact of a public CbCR on my current tax transparency approach?
• Is it self-explanatory, or do I need to provide additional relevant context?
• How do I embed public CbCR within my wider reporting approach, including ESG-reporting developments?

Whether ESG reporting or public CbCR, a firm grasp of data is essential in order to meet quantitative and qualitative reporting requirements.

Data Central to BEPS, ESG and CbCR

Another data-heavy item on the tax agenda should also be considered: BEPS 2.0 Pillar Two, with an expected entry into force as from 2024.

In an already busy compliance agenda for tax functions, BEPS 2.0 Pillar Two adds a new layer of compliance and reporting to authorities, with an unprecedented level of complexity. The Pillar Two Model Rules provide for a global minimum tax of 15% applicable to multinational groups with a global turnover of 750 million euros ($741 million) or more, and provide countries with new rights to impose top-up taxes on low-taxed foreign income.

With potentially 150 identified data points (based on EY analysis of the OECD BEPS 2.0 Pillar Two Model Rules, including financial, tax, HR, corporate and other data points) needed for the complex calculations involving multiple jurisdictions and business functions, Pillar Two presents a challenge from a data, stakeholder, and governance perspective. Key questions to consider include:

• Which stakeholders from the business will need to be involved, and how and when?
• What are the potential cash and effective tax rate impacts?
• Is data available and if not, how will data gaps be addressed?
• Are systems ready and able to meet the reporting and compliance needs?
• How does this link into existing compliance and reporting processes, including but not limited to CbCR?

The essence of the BEPS project is fairness in corporate tax affairs. New tax transparency requirements are part of a larger, wider corporate transparency movement and are intrinsically linked to the governance element of ESG reporting. Cross-functional and cross-jurisdictional collaboration is essential to deliver on reporting requirements and monitor compliance. A foundational understanding of data and a technology-enabled approach must be part of the solution.

Considerations for Tax Functions

Building an effective tax transparency framework requires careful consideration. With what was once private becoming public, controls, checks, and governance are even more important. A fragmented landscape is slowly converging as the demand for tax-related information grows.

Here are seven ways to make ESG reporting and tax transparency clearer:

• Review and update “tax control frameworks”;
• Utilize leading practice technology solutions to manage tax control frameworks and support the “record-to-report” process for meeting multiple disclosure and compliance requirements;
• Enable closer working between tax and finance teams;
• Assess impact on stakeholders—embed in strategies, consider timings and feedback loop;
• Choose format, visualizations and language wisely when disclosing tax information, with audience in mind;
• Consider local certifications in addition to global standards;
• Provide supporting context for information disclosed.

At the core, there is a data challenge, but faced head on, it could be an opportunity for improved compliance, better managed risk, and greater efficiencies.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

The views reflected in this article are the views of the authors and do not necessarily reflect the views of the global EY organization or its member firms.

Author Information

Nuria Redondo Martinez and Ed Capel are EY EMEIA Tax Transparency and ESG Reporting Co-Leaders. Nuria is based in Madrid and has been at EY since 2003. Ed Capel is based in Amsterdam and has been at EY since 1992. They are both experienced in compliance, reporting, and accounting and serve multinational companies across Europe, Middle East, India, and Africa.

The authors would like to thank Cathy Koch, Marlies de Ruiter, Ana Fallas Conejo, and Charlene Glenister for their contributions to this article.

The authors can be contacted at nuria.redondo.martinez@es.ey.com and ed.capel@nl.ey.com