A Conscientious Approach: Aligning ESG Efforts with International Tax Rules and Transfer Pricing

In today’s global landscape, an MNE’s approach to cross-border transactions among related parties and its compliance status concerning transfer pricing issues goes beyond mere compliance or ethical considerations. It has evolved into a long-term commitment towards achieving a sustainable future mission. The pursuit of tax justice, through traditional analyses, necessitates that the distribution of tax burdens meets criteria of vertical and horizontal equity–like cases should be treated in the same way and relevantly different cases should be treated differently(Murphy & Nagel, 2002).

Reforms undertaken by states should lay the foundation for a better world, addressing the environmental, economic, and social impacts prudently.

Within the context of the Environmental, Social, and Governance (ESG) imperative, it is crucial how much tax is paid, where this tax is being paid and if the estimation of the tax burden per legal entity follows transparency and social justice.

In this context, global demands for tax transparency have elevated taxes and transfer pricing as major indicators of a company’s contribution to the “S” part of the ESG framework.

The publication of tax and transfer pricing reports, such as Country-by-Country (CBC) reporting, increases transparency and bolsters credibility in the taxation system. While pressure from key stakeholders, particularly institutional investors, for companies to disclose additional tax-related information is increasing (Thompson, 2019), it is becoming highly possible that, in the near future, we will witness voluntary disclosures of tax positions by not only large corporations but also SMEs, without having that obligation at all. Media coverage of significant tax scandals and media pressure for the equitable distribution of the tax burden has compelled many MNEs to invest in more transparent relationships with their stakeholders.

In response to the heightened scrutiny from the media, institutional investors, and various stakeholder groups, many companies are reevaluating what constitutes relevant tax accounting information to share with the public. These stakeholders expect that companies will act as responsible corporate citizens. (Van den Berg, 2020).

One of the most significant ESG trends in 2023 is the increased demand for more precise and reliable data. ESG data solutions are assuming an increasingly pivotal role in decision-making for investors and businesses(Inrate, 2023. Consequently, it is anticipated that the general demand for tax and transfer pricing transparency will become more and more intense.

MNEs should not underestimate the effort required to compile all the tax data and then they should find a way to communicate those data effectively in order to build trust and promote accountability as a social statement. As ESG trends undergo rapid changes, MNEs and investors must remain adaptable and responsive to confront these challenges effectively. The imperative and effective implementation of ESG criteria could accelerate the optimization process of firms’ performance and profitability,  (Basdekis et al., 2023), taking into consideration criteria of equality and social justice.

Moreover, MNEs on their way to manage international tax risks should define a step process to further enhance tax governance including an operating set-up of the most significant tax audits, tracking on going disputes and litigation. A great number of disclosures are becoming publicly available, and this would definitely have an impact on their reputation as more and more key stakeholders are becoming ESG conscious.

Public scrutiny of MNEs engaging in aggressive tax planning strategies has prompted ESG rating agencies and institutional investors to penalize those adopting such policies. While the exact influence of these strategies on ESG scores is not yet clear, any engagement in tax avoidance strategies can certainly lead to negative repercussions for companies due to public disapproval and censure (Fonseca, 2020).

It is imperative for tax and finance executives to evaluate their tax governance. A recent survey conducted in March 2023 (EY Global) revealed that only 22% of tax and finance executives among the respondents declared that their tax function is fully integrated into their enterprise’s ESG strategy.

In conclusion, MNEs should pay significant attention on tax and transfer pricing risks especially when those are a material topic. While ESG trends, including GRI standards, have established a new global norm for tax transparency reporting, it is crucial to have a transfer pricing perspective in place and align any disclosures relevant to the organization’s tax-related impacts with transfer pricing policies.

Eurofast’s dedicated team of experts in international tax and transfer pricing are always keen to assist you at any issue regarding cross border compliance aligning your business needs with international rules and a sustainable mission.

Please, feel free to contact us at athens@eurofast.eu

Eurofast Athens Editing Team