In recent years, various initiatives have been established to address the environmental, social, and economic challenges around the globe. One of the most prominent initiatives is probably the Sustainable Development Goals (SDG), which were adopted by the United Nations and serve as a collective ambition to eradicate poverty, safeguard the planet, and guarantee peace and prosperity for all individuals. Another prominent example is the Paris Climate Agreement with its primary objective to address climate change by limiting global warming to well below 2 degrees Celsius above pre-industrial levels.
These initiatives have been or are going to be transferred to voluntary guidelines (e.g., GRI, ISO, ISSB, etc.) or even law (e.g., CSRD, ESRS, CSR-RUG, etc.) and are applied to companies and their business operations. One important aspect that needs to be addressed is a company’s tax strategy as this strategy should be in alignment with the goals of the sustainability initiatives.
Governments utilize taxes as a tool to foster more sustainable economies and influence societal behaviors. This is accomplished through the implementation of higher taxes on non-compliant activities and products, as well as by providing incentives and mandating greater transparency. In addition, investors are incorporating ESG (Environmental, Social, and Governance) factors into their investment strategies, and taxes play a crucial role in assessing both financial and sustainability performance. In this regard, taxes are a vital aspect of a company’s sustainability strategy (a) to adhere to environmental tax regulations and manage tax effects across all operations, (b) to align with (voluntary) ESG commitments and secure investments, and (c) to establish a framework for transparency and governance in tax issues.1 The manner in which an organization manages tax risks can also have a substantial impact on its ESG ratings.2
Why is it Important?
Taxation is an important part of sustainable finance and affects the profit distribution throughout the value chain, influencing valuations of business transactions.3 The tax department is one of the few divisions of an organization that operates throughout all business activities and, thus, possesses the knowledge to construct a coherent picture of how organizational resources are utilized. This presents an opportunity for tax executives to use their department’s distinctive expertise in aiding the assigned departments (e.g., the sustainability department) maneuvering through the regulatory sustainability frameworks. Assisting in unraveling the complexities of sustainability can solidify the tax department’s role as a unit that provides valuable insights into one of the most crucial business issues in the present and the future.4
How to Proceed?
In a first step, an organization may want to evaluate the consequences of ESG matters for their tax strategy and integrate them on two dimensions: tax compliance and tax planning. This seems reasonable as according to BDO’s US 2022 Tax Outlook Survey, the majority of tax professionals shows a strong interest in strategic discussions evolving around their business’s ESG program.5 With the global emergence of sustainability taxes and initiatives (e.g., EU Green Deal or Carbon Border Adjustment Mechanism), coping with the continually evolving tax regulatory landscape poses increased challenges. It is essential to strategically plan for the repercussions of these measures on both business and operational models as an integral aspect of a comprehensive tax strategy. Organizations may have to harmonize their conventional supply chain frameworks with ESG metrics. While this presents chances for optimizing the supply chain and minimizing inefficiencies, it necessitates precise tax planning to prevent taxation from evolving into a substantial risk throughout the transformation process. Organizations should make informed decisions on how to minimize their ESG tax obligations while maximizing the benefits of available tax incentives. This requires raising awareness about ESG taxes and current tax trends, emphasizing their impact on the business and the stakeholders.1
Data-driven technology and analytics solutions can substantially help to identify and quantify exposure to ESG tax regulations within the current supply chain model. Tax planning solutions empower businesses in crafting and executing tax-efficient supply chain strategies, unlocking potential ESG tax incentives and investment opportunities. Software solutions can also aid in formulating a tax governance framework that complies with ESG standards, outlining clear responsibilities, processes, and controls. In this regard, fostering cooperation between tax specialists and technical development teams could prove beneficial.
As a next step, a novel tax strategy should be communicated to all relevant stakeholders and aligned with their interests. A stakeholder communications plan can serve as a structured framework to foster the inclusion and continuous information dissemination to stakeholders at each stage. Digital tools may help to enhance stakeholder engagement and relationship management. Beyond traditional approaches, online portals, social media, or visualization tools offer stakeholders easy access to current information, updates, and responses. These digital tools can make the feedback loop regarding the novel tax strategy more effective and add value to the overall process.6
The final step of the new, ESG-aligned tax strategy is its execution. There are many things to consider in this regard, but perhaps the most important issue may be to coordinate and motivate all people involved in the process.
The global focus on sustainability has elevated the importance of aligning tax strategies with ESG goals. Governments and investors are increasingly incorporating tax considerations into sustainable finance, influencing valuations, and shaping ESG ratings. Evaluating ESG implications on tax compliance and planning is essential, given the rising importance of sustainability taxes and initiatives. Awareness, data-driven technology, and digital tax planning solutions are key for navigating the evolving tax landscape and optimizing supply chains.
Sources:
1 – https://assets.kpmg.com/content/dam/kpmg/ch/pdf/esg-tax-strategy-planning.pdf
2 – https://taxjourneys.com/why-tax-should-feature-on-the-esg-agenda/
3 – https://www.pwc.com/us/en/services/esg/library/tax-strategy.html
5 – https://www.bdo.global/en-gb/microsites/tax-in-esg/overview
