With an increasing focus on sustainability reporting both internationally and closer to home, there are a number of sustainability reporting regimes in the European Union (EU) which UK headquartered groups may need to comply with. What relevance - if any - do these regimes have for tax leaders? What should tax leaders do to help their organisation - and how can tax leaders leverage their existing activity around tax transparency reporting to support this?
The EU sustainability reporting landscape
In the EU the sustainability reporting framework is made up of three initiatives:
- The Corporate Sustainability Reporting Directive (CSRD) establishes requirements for organisations to report on their sustainability practices.
- The Sustainable Finance Disclosure Reporting (SFDR) initiative sets out disclosures relating to financial market participants and their products.
- The Corporate Sustainability Due Diligence Directive (CSDDD) requires due diligence on certain aspects of an organisation’s value chain.
Taken together, these create a framework for the consistent disclosure of sustainability impacts across Europe. They apply to organisations both inside and outside the EUwhere relevant criteria and thresholds are met.
The CSRD and SFDR regulations are underpinned by the EU Taxonomy: a classification system for reporting on the environmental impact of a company’s operations.
The Taxonomy includes “Minimum Safeguards” (MS). These require alignment with two international frameworks: the OECD Guidelines for Multinational Enterprises; and the UN Guiding Principles on Business and Human Rights.
From a tax perspective, the OECD Guidelines are the more relevant of the two. They underline the need for Board-sponsored tax governance practices; and outline principles such as compliance with the spirit, not just the letter, of the law.
The minimum safeguards
As yet, there’s no official EU guidance on how to apply the MS. However, the Final Report on Minimum Safeguards, published last October by the Platform on Sustainable Finance (PSF), offers an interpretation. It proposes two tax indicators of non-alignment for SFDR and CSRD:
- A company fails to treat tax governance and compliance as important elements of oversight; and lacks adequate tax risk management strategies and processes (as outlined in the OECD Guidelines for Multinational Enterprises).
- A company has been found guilty of tax evasion (in some places, the report refers to a company being found in violation of tax laws).
These condense the OECD guidelines into two minimum criteria. The report suggests that a company would not be aligned with the MS if either indicator applies.
The first of these indicators highlights that, in today’s sustainability-driven environment, good governance must be embedded and effective. This is a recurring theme not just in mandatory sustainability regulations, but also in many voluntary sustainability and tax transparency frameworks.
The second point identified in the Final Report on Minimum Safeguards focuses on the absence of tax evasion as a measure of compliance with the spirit of the law. This should not be a particularly difficult standard for groups to meet. Larger groups, however, will also find themselves in scope of the EU’s impending public Country-by-Country (CbC) reporting rules. These groups should anticipate that assessments by external stakeholders regarding whether they comply with the spirit of the law will take account of the picture presented by their CbC report. The recent consultation on SFDR does just that - it proposes to use information from the CbC report on accumulated earnings in non-cooperative tax jurisdictions as an adverse indicator for the purposes of SFDR disclosures.
Get ahead of the curve
Going back to the questions I posed at the start, it should be obvious that tax is relevant for sustainability reporting, and it seems likely that expectations surrounding sustainable tax practices and behaviours will continue to evolve. However, the tax themes emerging from the sustainability reporting regimes in the EU are consistent with the broader tax transparency themes that tax leaders should already be engaging with.
So what can tax leaders do now to leverage their existing activity? I’d recommend three key steps:
1. Connect with your sustainability lead
Tax is key to determining alignment with the Minimum Safeguards, so your sustainability team will need your support. You should:
- plan to engage with sustainability, finance, and corporate reporting teams to understand the relevant sustainability reporting requirements and where input from tax is required;
- understand how tax governance and strategy impact sustainability disclosures and what this means for the business; and
- embed sustainability considerations in your tax decision-making processes.
That way you can make sure that developments in your approach to tax transparency are supportive of the organisation’s broader aims. On this note, I recommend making enquiries not only as to whether your organisation is subject to mandatory regimes, but also whether the business is targeting compliance with any voluntary regimes.
2. Review your tax governance processes
The importance of good tax governance is emphasised across a number of frameworks. Evaluating your existing tax governance and risk processes is important to support your tax transparency aims. A maturity assessment of your tax governance and controls will help you to formulate an action plan to strengthen them.
3. Plan the development of your external tax reporting
Tax leaders should be thinking ahead and anticipating what their tax reporting will look like in 3-5 years’ time. You’ll need to consider how to address factors such as:
- the tax criteria underpinning the organisation’s sustainability reporting objectives and obligations;
- new mandatory tax reporting requirements, such as public CbC reporting, and the context which might be needed to help stakeholders understand this information; and
- the changing international tax landscape from BEPS Pillar 2 taxes and the impact on your tax profile.
The sustainability reporting landscape is changing rapidly, as is the tax reporting landscape. A strategic approach to tax transparency is critical to ensuring you stay on top of developments.
KPMG’s experts can help you progress on your tax transparency journey, whether that is looking at tax governance and controls or developing a plan for what your tax reporting should look like in a few years’ time. Get in touch to see how we can support your tax function.