Missing the VAT boat

VAT IS OFTEN the third largest cash flow item for a company. Yet compared to other large cash items, it tends to receive little attention from most heads of tax or chief financial officers. It doesn’t usually form a key metric on which these senior finance executives are measured and incentivised. They are focused instead on direct tax key performance indicators, such as an effective rate and cash rate (which are measures that have very little sensitivity to VAT) when assessing the efficiency and effectiveness of the tax department.

For those at the coalface of indirect tax – the managers, always “being the bridesmaid” can be frustrating. And, more seriously perhaps for the businesses themselves, failing to measure the performance and effectiveness of VAT management systems leaves them exposed to potential operational risks and possibly a big upside opportunity to improve cash flow through better management of VAT inflows and outflows.

So how bad is the problem? KPMG’s 2012 Benchmarking Survey on VAT / GST looked at 224 companies globally including some of the world’s biggest businesses. Less than a quarter (23%) of tax departments had VAT metrics in their performance goals and those that did have them ranked it as the least important. The situation also looks bad in terms of senior VAT management: only around a third of respondents had a global head of VAT, albeit the position was a little better among larger businesses.

I question whether enough thought is going into indirect tax, in policy terms, in these businesses. Our survey showed only 32% of businesses rated the design of their VAT policies as either very good or excellent, and only 20% rated the implementation of these policies in the same way.

Why does this matter? It’s important because there is a clear global shift towards indirect tax. Corporate tax rates have been falling steadily as a means to attract inward investment, and governments are looking more towards consumption taxes as revenue sources. In direct is real time taxes which are easier to collect, harder to avoid and not dependent on profits – much to like from a national treasury perspective.

But this shift, coupled with increased globalisation, new business models, evolving finance functions and rapid legislative change, puts VAT management under ever more pressure. All this is also happening against a backdrop of increased scrutiny as authorities globally seek to maximise revenues through ever more progressive and, in some cases, aggressive auditing of tax payers.

Following the old adage of “what gets measured gets done,” it seems clear the first step to improving this situation should be to understand the key financial, operational and reputational risks of failing to manage VAT effectively and the upside cost saving opportunities available from better VAT management. Then, having done that, to develop appropriate metrics to ensure the necessary improvements to the way in which risk is managed and opportunities realised happen.

It’s worth noting our survey showed that among financial services companies, where VAT is a real bottom line cost, it’s much more firmly on the CFO’s radar, with the result being that the tax function is held more accountable and key performance indicators incorporate VAT metrics. The rest of UK plc has some catching up to do.

Gary Harley, head of indirect tax, KPMG in the UK

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