Tax transparency
One way to add value to an organization’s ESG strategy is by increasing how transparent it is about tax. Many stakeholders now consider tax fairness and transparency a moral imperative and a political risk that companies should address. It has become easier for stakeholders to scrutinize whether organizations are behaving in a socially responsible manner thanks to increased media coverage of the taxes companies pay worldwide and the tax relief claims companies made in the wake of the COVID-19 pandemic.
In addition, there have been calls for governments around the world to enact tax transparency reporting laws requiring companies to make publicly available taxes paid and tax benefits received. Although such requirements are not currently mandatory in the U.S., companies have begun to consider and prepare for potential future U.S. tax transparency reporting requirements. Part of the driver for this preparation is the fact that mandatory tax transparency reporting is already required by countries in the European Union, and many are expecting the U.S. to follow that lead.
Crowe observation
Voluntary tax transparency reporting can range from adding a tax section to an organization’s sustainability report or website to releasing stand-alone tax transparency reports each year. The main goal of a tax transparency report is to allow an organization to tell the narrative of how it participates in worldwide tax systems.
Tax credits and incentives
Another way to include tax in the ESG discussion is by considering tax incentives and credits. U.S. tax law includes numerous tax incentives, including deductions and credits that are meant to steer businesses toward engaging in more environmentally or socially beneficial behavior, including several provisions that were included in the newly enacted Inflation Reduction Act of 2022 (IRA).
IRA provisions that support the "E" of ESG include the following incentives focused on improving the environment:
- Energy-efficient commercial building property deduction
- Soil and water conservation and endangered species recovery expenditures
- Renewable electricity production credit
- Plug-in electric vehicle credit
- Alternative fuel vehicle refueling property credit
- Enhanced oil recovery credit
- Energy conservation subsidies
IRA provisions that support the "S" of ESG include the following incentives that consider social factors:
- Opportunity zone credit
- Work opportunity credit
- Employee retention credit (during the COVID-19 pandemic)
- Charitable contribution deduction
- Payroll taxes including Medicare and Social Security
Crowe observation
ESG-focused incentives are not limited to those enacted by the federal government. Tax policy also is a mechanism that state and local governments use to encourage businesses to engage in ESG-related behaviors that can be mutually beneficial to the organization, the state, and local communities.
Additional taxes and tax-based incentives encouraging ESG-friendly behaviors are expected to increase in the coming years. Rather than wait for these policies to change, businesses should prepare now so they can manage and more easily adapt to additional ESG-related tax incentives and compliance requirements. Companies that engage in advance planning will have a more complete and accurate understanding of how tax-related ESG activities can affect operating profits, net cash flow, and forecasting models.
ESG action to take now
While ESG policies continue to shift, it is important for companies to focus on their tax risk and governance to ensure preparedness for current action and upcoming changes. The following list highlights some tax-related questions that an organization can ask now to be ready to take advantage of and comply with potential new ESG expectations:
- Does the organization have a method to identify new ESG-related tax risks and opportunities?
- Has the organization compiled a cost-benefit analysis to determine which ESG tax opportunities to explore?
- Does the organization have the tools to accurately budget for ESG-related changes in tax policy?
- What potential investments support the organization’s ESG goals, and what are the tax benefits?
- What tax governance policies are in place, and how will they be affected by ESG changes?
- What is the organization’s appetite for tax planning and tax risk, including with respect to ESG taxes and incentives?
- Does the organization have a tax risk statement, and does it address ESG?
- Is tax risk, including tax risks associated with ESG, a consistent factor in board strategy regarding risk management?
- Are there barriers to incorporating ESG-related tax provisions into the organization’s decision-making?
- What reporting frameworks are voluntarily used, is ESG transparency part of those frameworks, and what types of tax disclosures are reported in those frameworks?
- How does the organization monitor the differences and changes in global tax policies, including policies on ESG, especially when considering expansion outside the U.S.?
- What is the impact of ESG on transfer pricing?
Some potential action items in response to ESG-related tax changes might include:
- Modifying existing supply chains
- Adapting systems to deal with tax authority digitalization
- Developing policies and procedures to address new environmental taxes
- Managing new or increased compliance requirements
Looking ahead
As ESG matters increase in importance, companies will need robust processes and controls in place so they can identify and monitor the changes that are likely to affect their business and adapt to those changes.
Tax is a crucial tool in the adaptation and development of an organization’s ESG policies and ambitions. It is important to be aware of the tax effects – risks and opportunities – of ESG changes so companies can comply with them and take advantage of new tax benefits. Organizations that effectively embrace these new challenges likely will be more responsive to their various stakeholder groups and in a better position to maintain a competitive advantage.
