Any ESG strategy brings tax implications with it. But tax departments often do not have a seat at this table. EY Global and U.S. tax policy leader Cathy Koch makes the case for why the tax department should be involved in ESG conversations.
Company leaders increasingly look to gain shareholder value and stakeholder support through environmental, social and governance (ESG) initiatives. But too often, the role the tax department has to play in this strategy goes overlooked and under-leveraged.
A number of recent market and societal forces – from global climate change to increasing stakeholder capitalism and the fight for racial equity and social justice – have heightened the importance of a company’s ESG strategy. ESG is often used interchangeably with “sustainability” and “corporate responsibility,” and the term encompasses a variety of issues that impact a company’s short- and long-term value.
What actions big or small are you taking today to help restore our earth for tomorrow? Our Americas Vice Chair – Tax Services, @MarnaRicker shares insights on tax’s role in the future of sustainability. Learn more here: #FutureOfTax #EarthDay https://t.co/Iadg5Enqj5
— EY Tax (@EY_Tax) April 23, 2021
Stakeholders – customers and employees alike – are paying close attention to companies’ ESG activities and messaging, and that focus only continues to grow. EY research shows that investors are incorporating ESG into their investment decisions at unprecedented levels. Consumers, too, are looking at how companies address sustainability and social issues. They are making purchasing and brand loyalty decisions based on the information they find.
To stay relevant, companies need a balanced, thoughtful ESG strategy that is integrated into their operational DNA – and the tax department has a role to play in designing that strategy.
Having Tax at the Table When Devising ESG Strategy
The tax department has not historically been part of companies’ ESG strategy conversations. Increasingly, however, tax intersects with ESG matters, particularly around a company’s effective tax rate (ETR) and approach to taxation; its support for sustainability and social polices funded by taxes; its carbon footprint and climate mitigation strategies; its decisions around using available tax incentives and credits; and its overall tax transparency and reporting. Tax is often used as a lever to drive (and fund) economic and policy change, and a company’s decisions around tax engagement, tax incentives and tax disclosures have implications for its ESG strategies.
In addition, varied and vast ESG reporting metrics can mean that companies are reporting different facts and figures to different groups, which can increase their tax and reputational risk. Key players shaping the ESG reporting ecosystem include corporate reporting standard-setters that provide guidance for ESG disclosures; data aggregators that structure publicly available data or that request data from companies via questionnaires; rating agencies that create assessments of companies based on public and/or private information to sell to investors; and regulators, such as the Securities and Exchange Commission (SEC).
With so much at stake, tax departments need to be at the table to help companies consider, construct and communicate the tax implications of ESG-related decisions. This requires understanding the company’s values and value proposition – and how these elements are reflected in its tax policies.
What Should Companies Do?
For some companies, incorporating the tax perspective will simply require adjustments to existing ESG strategy and communications. For others, it will require a deeper analysis of the company’s current state and future ESG targets. What follows are some questions to consider when deciding how to imbed tax into a company’s ESG strategy.
Disclosing Tax Principles, Payments and Strategies
- What is the process for discussing tax-related ESG issues within the organization? Is there a process for involving the tax department in any tax-related ESG disclosure?
- What is our overarching approach to tax? How do we currently communicate this approach inside and outside the organization?
- How do we measure our ETR in each jurisdiction in which we operate? How is this information communicated within and outside the organization?
- What is our level of transparency around tax disclosures? Where is this information documented? How is it communicated internally and externally?
- Do we have a position on carbon tax policies? Do we know our carbon footprint?
- What is our position on tax policies related to health and/or social justice? How has that been established and communicated?
- How is tax currently represented in our company’s ESG ratings? What is the internal process for obtaining, analyzing and reflecting this tax data? When is the tax department brought into the conversation?
- To which ESG rating agencies do we report our ESG measures? How many agencies are we reporting to? Where are they located?
- What voluntary reporting frameworks are we planning to report under, and what are the tax disclosures required by those frameworks?
- Do we plan to engage with ESG rating agencies, standard setters and regulators as they design and refine tax metrics?
- How do we benchmark ourselves against other companies as it relates to ESG generally and tax specifically?
Credits and Incentives
- What sustainability strategies, targets and goals have we implemented? What role do tax credits and incentives play in meeting those targets by providing funding?
- Which tax credits and incentives do we currently use? How are decisions made about which credits to use and which to forgo? As part of this analysis, have we considered our approach to using credits in fiscally stressed jurisdictions, the volume and level of our credit use and the use of credits for investments and activities for which there is uncertainty about the outcome? Where and how is this policy memorialized?
- How are tax credits reflected in our ESG disclosures?
Supply Chain and Revenue Considerations
- How is ESG factored into our supply chain decisions? What role does tax have in those discussions?
- What impact do energy and environmental taxes have on our supply chain?
- Are we aware of potential future carbon, labor or health-related tax policy changes which may impact our business?
- Do we know how ESG-related taxes impact our revenue targets and competitiveness? How are we measuring this impact?
These questions are not all-encompassing, but can provide a good starting point for defining and shaping the tax elements of a company’s ESG strategy.
As ESG becomes more central to companies’ business strategy, tax will continue to play a role in defining and shaping ESG approaches and reporting. A company’s “tax creed” – articulating its overarching approach to tax and tax disclosures – should be memorialized and reflected in its overall ESG approach. This policy should be integrated into a company’s corporate governance and communicated broadly across the organization.
If not already at the table, the tax department needs to include itself in ESG conversations to help manage messaging, educate company executives about the tax implications of ESG-related decisions and evaluate potential risks. Companies that include the tax department in these conversations will be better positioned to manage potential risks, identify opportunities and communicate with stakeholders, customers and regulators about ESG tax issues.
The author would like to thank Kathy Schatz-Guthrie, Andrew Phillips, Brandon Pizzola and Rachel Strong for their contributions.
 See Rhett Power, “How to Attract Conscious Consumers to Your Business,” Forbes, September 6, 2020.
 The SEC has recently requested public input on climate change disclosures, including climate-related risks, impacts and opportunities, with an eye toward issuing guidance in the second half of 2021. In May 2020, the SEC Investor Advisory Committee approved recommendations that the Commission “begin an effort to update reporting requirements for issuers to include material, decision-useful environmental, social, and governance, or ESG factors.” In December 2020, the ESG Subcommittee of the SEC Asset Management Advisory Committee issued a preliminary recommendation that the Commission “require the adoption of standards by which corporate issuers disclose material ESG risks.”
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.