No two entrepreneurs and their family enterprises are the same, as each take unique paths to business growth, sustainability and bypassing risk. One family enterprise's ambition may be defined as ensuring the business thrives and successfully transitions to the next generation. For another, it may be expanding internationally to accelerate growth, or to disrupt their industry. The needs of each family also differ and, given the inter-weaving between business and family, it is often imperative that solutions address the needs of both.
A common theme which transcends all is globalisation. With rapid advances in technology, digitalisation has further opened doors to the developed and developing economies for family enterprises. This has enabled capital and highly skilled workers to be fluid and scan the globe for business opportunities, resulting in globalised family enterprises to be operating physically or virtually in multiple jurisdictions.
Globalisation has also disrupted existing business models, creating new competitors, reordering supply chains and increasing pricing competition.
The recent COVID-19 pandemic may create some fractures in globalisation and potentially take some wind off the phenomenon, though the nature and extent of its effects will probably be known in the coming years.
Notwithstanding this, globalisation has impacted family enterprises significantly, and below are six key tax trends that family enterprises should take note of as they ride the globalisation wave.
Complexities in tax reforms amid globalisation
The OECD base erosion and profit shifting (BEPS) project has introduced numerous changes such as transfer pricing documentation, along with country-by-country reporting (CbCR), that give tax authorities deeper visibility of a company's global tax profile. Tax rules on controlled foreign corporation (CFC) situations and trusts have also been revised and can impact family ownership structures meant for family succession planning purposes.
Foreign tax authorities are also collaborating more closely and sharing information. This proliferation of information exchange over the past five years via tax treaties, CbCR, common reporting standards (CRS) and the BEPS Action Plan have led to multiple information streams overlapping that could create perceived discrepancies that potentially confuse tax authorities. Coupled with greater scrutiny of cross-border transactions observed in recent years, this is pointing to possible undue tax controversy and increased costs for businesses as they clarify such perceived discrepancies with the tax authorities.
With the changes implemented directly (or indirectly) through the OECD BEPS Action Plan, existing ownership structures of family enterprises and family-controlled listed groups should be revisited to determine if the family's succession planning objectives continue to be met, and there are no adverse tax consequences which may inadvertently arise due to the CFC and trust tax changes. It would also be recommended to consider the CRS requirements to identify any potential misalignments of such CRS reporting with commercial reality.
With the increased focus on transfer pricing in recent years, related-party arrangements should also be revisited to evaluate if they remain defensible and that the transfer pricing documentation is adequate. This exercise should also then flag any outliers in arrangements and CbCR, to enable businesses to proactively reconcile and explain any discrepancies to the authorities if needed, to mitigate any undue tax controversy.
Given the existing transparent, interconnected global tax environment, family enterprises need to have a good handle on information exchanged and be able to anticipate the implications from the actions in one country and the potential impact in the other countries. This may be in the form of a dashboard of the information that is reported in order to reconcile and explain differences or overlaps between the different streams of information reported.
Tax uncertainties surrounding digital economy
Technology has brought successive waves of IT revolution such as the internet of things (IOT), robotics, virtual reality and artificial intelligence, that drive new digital business models.
On the other hand, existing tax regimes around the world are facing challenges to keep up, as many are generally focused on levying taxes on income earned and consumption taking place within the jurisdiction's borders. As the OECD embarked on Action 1 of the BEPS 15-point Action Plan to try to identify appropriate taxation for this digital economy, the lack of consensus among jurisdictions and unilateral tax actions adopted by some jurisdictions at the moment, creates an increasing tax uncertainty that is resulting in headwinds for innovation, growth and profitability. Some of these tax uncertainties include:
- The possibility of a tax on nexus implications of digital activity;
- Withholding tax on certain digital-related payments, or an equalisation levy based on digital-derived revenues of foreign companies deemed to have a virtual permanent establishment (PE) based on digital activities in these markets;
- New forms of assets and income from new business models, such as digital tokens, etc.; and
- The value created by, and attributed to, individuals' data.
Often such taxing rules apply not only to e-commerce businesses but also to conventional businesses offering digital products and services.
Family enterprises that pursue opportunities in the sharing economy and global digital marketplace, should closely monitor these developments and consider how their businesses are impacted. This may also reduce/limit the potential risk of double taxation due to the lack of clear consensus between countries on the taxation in the digital economy.
It is also key to have a digital operating model that strategically analyses tax along with other areas such as law, operations, technology and transactions. This should cover the following areas.
Digital enterprise strategy
The digital enterprise strategy identifies and addresses digital tax issues as early as possible in the business development processes to limit risks of unintended PEs, tax costs, compliance burdens, penalties and interest. Equally important, it reduces the reputational risk for the family as they are often closely associated with the family enterprise.
Digital incubation and innovation
As more data is collected and exploited, new opportunities arise, along with new risks and responsibilities, including data privacy, data security, etc. It is important for family enterprises to have a firm grasp of the business model and the value created from such data generated in order to determine any potential tax impact.
In areas where established tax rules are not developed yet (such as digital tokens), it is essential that sound technical basis is established and clearly documented in order to substantiate the tax position, as this may evolve over time.
Digital experience transformation
Today's technology often allows customers to bypass middlemen and buy products cross-border directly from the source, and this typically requires a digital infrastructure to replace conventional processes, often including the use of remote servers. Family enterprises should consider the impact of this increased cross-border activity and how different countries may interpret this and whether it may someday constitute a virtual PE.
Digital risk management, governance and audit
Given the comprehensive information that large family enterprises are required to provide, which is automatically exchanged, they should continually assess the systems and documentation needed to ensure the accuracy and clarity of the information shared with the authorities.
With operations in multiple jurisdictions, business owners, family members and their employees would inadvertently need to travel abroad for business. Given this trend, tax authorities are increasingly scrutinising business travellers for any taxable presence, and this has been facilitated through centralised immigration systems that are computerised and connected.
This can potentially expose families and their businesses to accidental non-compliance and adverse tax, social security, immigration and PE implications, including possible sanctions, significant fines and reputational damage. Unintended consequences on the declarations due to duplicate CRS reporting may also arise if the business owners created more than one tax residency. The adverse tax impact may further extend to the family enterprise, especially if that family member also holds key positions such as directorship.
While business travel is often an unavoidable necessity, it is important to manage the risks for the families and their family enterprises, and suitable travel protocols should be put in place that:
- Adopt a mobility policy and travel tracking mechanism that can raise timely red flags on situations where a tax risk may exist;
- Identify and document the purpose, length and underlying benefit of business travel;
- Limit the business travel to what is essential, where possible;
- Prioritise the monitoring, especially for locations where there is no double tax agreement/social security totalisation agreement;
- Have a clear understanding on the tax and immigration rules of the key jurisdictions where the family enterprises have material presence; and
- Identify when and where key decisions pertaining to an entity are made, especially when the decision makers are travelling, and maintain sufficient documentation to substantiate where these key decisions are made.
With globalisation, families are increasingly holding investments and assets outside their home jurisdiction. These may be within the existing group or may be held directly by the families for a variety of reasons.
Where the assets are held by the individuals, coupled with increased mobility of the business owners and their family members, inheritance tax issues can arise due to estate duty and inheritance tax rules in different countries. These may apply on different types of assets ranging from shares in companies to immovable property. For example, estate duty may be imposed when an individual is not resident in a particular jurisdiction but holds moveable property such as shares or fine wine within that jurisdiction.
As family enterprises grow domestically and overseas, it is key for them to have proper succession and estate planning to facilitate a successful transfer of their wealth and business to the next generation. This includes:
- Putting in place a family governance framework, where there is a family constitution for family members to abide by because it can help each family member to be aware of and aligned with the family and family enterprise's values and vision for the future;
- Exploring alternative arrangements and structures that may address the estate duty and inheritance tax implications from assets held domestically and overseas by the family;
- Putting in place a framework to adequately nurture and reward next-generation family members for their entrepreneurial and innovative efforts in the face of globalisation and disruption. This will attract next-generation talent to join and remain in the family enterprise instead of taking up attractive external opportunities or branching out on their own; and
- As a family grows in size and the family's asset portfolio increases in complexity, it may help to have a segregation between the management of family and business wealth. This can be achieved by setting up a family office which is gaining popularity in Asia.
Lastly, as the family's circumstances and needs evolve over time, their succession and estate planning should be revisited at critical milestones during its lifecycle journey.
Increased tax transparency
In recent years, the face of corporate tax has changed considerably and has climbed to the top of many people's agenda. Stories about the tax affairs of not just multinational corporations (MNCs), but also family-owned businesses, are increasingly more commonplace. Against this backdrop, management teams and boards are faced with calls for transparency from stakeholders that includes governments, the media and non-governmental organisations. These include more insights regarding companies' tax approaches and procedures, as well as the quality of the data from their global operations.
The availability of beneficial ownership information (i.e. the natural person behind a legal entity or arrangement) is also a key requirement of international tax transparency and the fight against tax evasion and other financial crimes. With this increased focus on transparency of beneficial ownership information, family owned businesses need to consider the impact of such disclosures on the business as a whole, including the competitive landscape.
Family enterprises should consider how, and if, to reveal more about their approach to tax and their overall tax contribution to the economies. This is a fine balance between providing relevant information and giving away confidential business information or driving up costs.
To adapt to this landscape and address the different concerns of engaged stakeholders:
- Family enterprises can start with defining a tax policy that gives effective guidance on what its responsibilities and required behaviours are across the organisation. Given the dynamic tax and business environments that businesses operate in today, the tax policy should be reviewed and updated regularly.
- Family enterprises will also need to socialise the tax policy internally so that it is understood and implemented uniformly within the organisation, especially where there are operations in more than one jurisdiction.
Lastly, beyond rethinking tax policies, family enterprises may need to be vigilant about internal compliance across the organisation by seeking a deeper understanding of their organisation's tax risk, as well as strong governance and risk management tools and processes.
The amount of data available to a single taxpayer is small, by comparison to what governments collectively collate domestically and what is exchanged between tax authorities. This creates an unlevel playing field that gives tax authorities an upper hand in detecting industry or geographical trends, as well as outliers.
To manage the unprecedented amount of taxpayer data collected and exchanged, tax administrations are increasingly relying on data analytics, including the use of existing analytics techniques and combining and integrating techniques like rule-based monitoring, modelling and outlier detection, and accessing information closer to the source. Yet, many companies are still using tedious manual processes for tax-related monitoring, and playing a game of catch-up with their technology.
It is essential for businesses to work on increasing their data analytics capabilities, including how they collect, store and analyse tax and financial data, in order to better defend their compliance processes and tax positions and make reporting easier.
To achieve this, the control and accountability of data needs to be centralised. Further, data quality will also need to be enhanced, along with aligning the collection, consolidation and analysis of different data sets across all areas of the enterprise.
This will also involve adequate investments in the finance/tax function and facilitating the cooperation between the finance/tax department and IT, so that the IT team works more closely with finance and tax professionals.
An ideal outcome of these efforts could be dashboards that include indicators for transfer pricing and direct and indirect tax, and monitoring the management of tax controversies across various legal entities.
Such an investment in the tax and information technology functions to meet digital tax requirements across the jurisdictions that they operate in, are fast becoming a need, rather than a choice. If a family enterprise is to move from a reactive stance on tax to one that is proactively managed and intelligently predictive, they need to consider making such investments and take actions now.
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Desmond Teo is a partner based in Singapore and leads the Private Client Services tax team across Southeast Asia. He is also the Asia-Pacific Family Enterprise Leader. He has significant experience as a strategy and tax consultant.
He has been a trusted advisor serving major international and regional financial institutions and family offices in the areas of restructuring, tax due diligence, M&A structuring, and feasibility and implementation of fund structures. He provides clients with end-to-end solutions for their structures and their operations, ranging from assisting with the acquisition or set-up of businesses, debt/capital restructuring, tax incentives application, tax compliance, to exit planning.
Desmond holds a bachelor's degree in accountancy from the Nanyang Technological University.
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