Is Tax Still in the Hot Seat?

Posted by Kelley Lear on Jan 19, 2011 | 0 comments

Is Tax Still in the Hot Seat?

I was just reading a white paper from Deloitte entitled “Material weakness and restatements – is tax still in the hotseat?” and I had to share my thinking on this for Red Whine Wednesday. Thought it was a pertinent topic that most you can relate to. I was surprised to see that even though the overall number of occurrences has declined in total and by issue, income taxes are still the most prevalent of the US GAAP failures reported. They breakdown into the following areas, with Tax accruals/deferrals topping the list at 27%!

1. Cash flow statement error – 2%
2. Debt, warrants, and equity – 12%
3. Depreciation/amortization – 2%
4. Inventory/vendor sales cost – 11%
5. Leases or contingencies – 6%
6. Fixed/intangible assets – 13%
7. Revenue recognition – 24%
8. Tax accruals, deferrals – 27%
9. Consolidation FIN 46 – 5%

As we have solutions for fixed and intangible assets and depreciation/amortization as well as for documentation and controls, I was very interested in getting to the bottom of these statistics. However, I was dismayed to see that Deloitte’s findings cited “personnel and lack of review” as the “primary causes of tax-related material weaknesses”. And for those readers not as familiar with the most recent strict definitions here, I just wanted to note that the Public Company Accounting Oversight Board (PCAOB) defines material weakness as “a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility (an upgrade from the older definition of “more than remote likelihood”), that a material misstatement of the company’s annual or interim financial statements will not be prevented or detected on a timely basis”.

Deloitte’s studies found “personnel issues, lack of review and documentation and overall controls environment” as the leading causes of the material weaknesses. Review issues that you can all relate to include having time to review and not having the right level of detail and/or precision for those reviews. Lack of sufficiently trained personnel at key times of the year actually accounted for over half the leading causes for material weaknesses. Other review areas important to note were the reconciliation of tax accounts and improper treatment and recording of items under US GAAP rules, as well as the review and analysis of current and deferred expenses and supporting workpapers.

I contend that these are all areas that can be “easily addressed” (and I state that somewhat tongue in cheek), the issue is having the time, resources and support from leadership to get this done properly. Always a challenge. However, as material weaknesses tend to get a lot of focus from media, shareholders and internal leadership, we have a fighting chance. Part of my whine is “why did these companies have to get to the point of a material weakness in the first place?” I am sure that the Tax Director, the tax managers and VP of Tax have been letting everyone know who will listen, what they need to get the job done properly….and perhaps that fell on deaf ears? I am sure they already asked for tax sensitized legal entity structures in the GL, tax sensitized accounts, tax specific data dumps, more time after the accounting close to analyze and turnaround the provision, more headcount, IT budget for a provision solution, fixed assets, workflow and document management tools, and training for their folks (as well as for training accounting and finance about tax repercussions)! With that being said, for those of you who have not had a material weakness, perhaps you should share the Deloitte article with leadership, and then “re-pitch” your ideas? Instead of remediation steps, perhaps they should think about risk mitigation steps?

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