Burden of proof Featured

8:00pm EDT May 26, 2007

Is tax provision work an exact science? “A tax provision is an estimate of tax and not an exact science, but it seems to be moving more toward an exact science in an area that’s almost impossible to fully predict,” says David Sordello, CPA, tax partner, Armanino McKenna LLP. “Meanwhile, companies are struggling with these provisions in a tax world that continues to grow more complex as business becomes more global.”

Smart Business spoke with Sordello about how the new complexities of tax provision work are placing a burden on companies and prompting big changes in their tax departments.

How can the new tax environment ensnare companies?

Two big areas are causing problems. First, as companies grow into more tax jurisdictions, they’re forced to deal with doing annual projections and estimates to accrue taxes for federal, state and many international jurisdictions. This requires the right detail information and knowledge of many jurisdictions’ tax rules and laws. Additionally, they must have proper third-party arrangements with their subsidiaries to properly pay tax in foreign jurisdictions when the company does business internationally.

Second, companies historically relied on their accounting firm’s advice to help them book items and find the right answers. Today, accounting firms that perform corporate audits are essentially handcuffed by the rules around Sarbanes-Oxley and the Auditor Independence Act. It’s now up to management to have all the processes and resources in place to properly account for taxes.

Companies are being forced to reallocate their limited resources from tax return preparation and planning into the tax provision area. It seems more and more that the role of a tax professional is no longer a matter of minimizing taxes; it’s now a matter of properly accounting for taxes for financial statement purposes.

How are companies working through these issues?

Companies have been hiring additional resources for the skills to make these accruals, and to make sure that management has the tools in place to calculate these estimates and fulfill the requirements that the auditors will address.

Many companies simply do not have the bandwidth to accomplish the necessary tax provision work and want a third party to review what they’ve done internally from a compliance and SOX perspective to make sure it’s right. They need to make sure they’ve gone through enough internal processes to be able to represent that they have done all the steps, and that they have enough intellect and knowledge to properly represent to the auditors that they’ve done their job in making this accrual. I spend about 90 percent of my time helping companies think through all of the issues and to put all of the documentation in place, while working with the audit firms to get the client through this quarterly process.

How are 123R and FIN 48 impacting the tax provision process?

It seems like every year there has been a new wrinkle on how the Financial Accounting Standards Board (FASB) or IRS is making the provision process more complicated. Two years ago, it was the adoption of 123R that significantly complicated stock option accounting, and the tax benefits of the related option deductions.

This year brought us FIN 48, the new rules for accounting for uncertainty in income taxes, which was formerly addressed by FAS 5 (accounting for contingencies). The accounting firms themselves are dealing with this for the first time, making the process even harder for companies that need advice.

Why should companies hire internally or seek outside resources?

CFOs should be aware of FIN 48 and its implications to their companies. Are they meeting all of the disclosure rules? What are the ramifications that are going to impact their effective tax rate and earnings per share? Do they understand these issues and can they articulate that to their Board, their auditors and analysts? The path to that understanding is through hiring the internal resources, outsourcing the function or a combination of both.

DAVID SORDELLO, CPA, is a tax partner with Armanino McKenna LLP in San Jose. Reach him at DavidS@amllp.com or (925) 790-6403.