Tax Related Material Weaknesses – They Just Aren’t Going Away….

Posted by Kelley Lear on Jan 25, 2012 | 0 comments

Tax Related Material Weaknesses – They Just Aren’t Going Away….

Tax related material weaknesses are unfortunately still very often topics for conversation amongst tax professionals. In fact, I was just talking to a colleague who was hiring a tax risk coordinator, whose first task was going to be to conduct a thorough risk assessment within their organization. Another was discussing the lack of tax expertise on their current Board and how that is affecting them with their arguments for employing important process changes within finance and tax.

Every year I try to read the latest and greatest surveys, results and proactive thinking on tax related material weaknesses to keep abreast of what is going on out there. Especially since Financial Week notes “that while the number of material weakness has dropped by 44 percent since 2005 (mostly a large cap trend), tax-related material weaknesses have fallen by only 25 percent”.

Deloittealways produces an excellent report on the question of whether or not “tax is still in the hot seat” as it relates to material weaknesses. They typically provide their research, source findings and ideas for remediation which provide many valuable take-a-ways. Recently, however I also was able to attend a webcast provided by Alvarez & Marsal Taxand, LLC (A&M) titled “TAX-RELATED MATERIAL WEAKNESS: STILL ALIVE AND KICKING IN 2011 – EYE ON TAX – DECEMBER 2011”. The session was moderated and presented by Layne Albert (Managing Director) and Paul Helderman (Managing Director) from A&M. I thought I would share some of the great things that I learned from their work and share some of my own thoughts about what I have been seeing out there.

Key Control Areas:

  • As always…keeping current and on top of Tax Laws and U.S. GAAP tax accounting principles so that the organization can appropriately react and plan for those changes. Although, I am sure most of us out there have this under control.
  •  The quarterly and annual income tax provision calculated accurately (current and deferred income calcs fully documented and supportable).
  • Detailed, comprehensive and accurate Financial statement disclosures.
  • Tax basis balance sheet calculation and statement.
  • Overall tax accounting, material tax filing positions, and tax planning in general.

Key Factors Leading to Material Weaknesses are:

1. Inadequate staffing and tax technical expertise. This factor has topped the list over the past four years at least! I remember the United Airlines material weakness being reported back in 2007 stating this as the reason for theirs. You may be feeling the pain as well…
2. Ineffective review and approval practices. We see this every day in tax. In fact, some very large companies may still have very small tax departments. I even had one Tax Director telling me he can’t imagine who he could find to review and approve his spreadsheet controls and changes for his provision process. There was no one internally who could do it!
3. Ineffective reconciliation of income tax accounts due to process weaknesses and/or failures. When I see this out there, it can be attributed to people processes for sure. However, it can also be related to technology issues. Older general ledgers that are most definitely NOT tax sensitized can make this process cumbersome (if possible at all). I worked with one company that had no confidence that their financial and management reporting numbers accurately tied to legal entity reporting numbers, and the detail to get at the tax accounts was relatively impossible.
4. Inadequate controls with respect to the quarterly tax provision process. Say no more here…not a surprise.

Typical Issues:
1. Personnel issues
2. Ongoing and one time complex transactions
3. Poor tax accounting processes

What can you do about it?
Well, it always comes down to the fundamentals… People, Process and Tools.
• People – Do an assessment of your current state. However, before that is done, do you know exactly what roles/skills and tasks need to be done throughout the year? What tools will they need to get the job done right? Do you have job descriptions? Do you have the current skills in house, do you need consultants, and/or do you need a plan to develop the skills (ASC 740, etc.) you may need?
• Tools– There are really three main concepts here: First, you should have “risk control matrices” in place (which get reviewed and updated regularly in order to keep current and to constantly reduce risk). Second, is another relatively simple tool – a “checklist”. This will ensure that you do not overlook minor details or so that it forces you to actually review or complete a seemingly mundane task. Third, automate the most risky and necessary areas of your process (as much as possible at least). For those areas that are not as seamlessly automated, make sure you have controls and key review points.
• Process – The most valuable area here is to integrate finance and tax as much as possible and/or to make sure you have regular reviews and communications regarding tax accounting, reconciliation and your quarterly and annual processes. Analyze and review! A process review and periodic mapping or surveys can’t hurt here to make sure that the process is always optimized.
• And don’t ever forget, if you don’t TEST and VALIDATE all processes and controls, there is no other way to make sure you are doing what you say!! Everyone likes to forget this step as you are probably completely exhausted by the time you get here. However, without testing and validation, you could have just words on a paper or a theoretical process that will end up costing you.

What are some of the things your organization is doing? Are there key areas that you have been focusing on?

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