It is rare for the Tax function within a corporate group not to use spreadsheets in its day to day activities and calculations. Spreadsheets have some very compelling strengths - they are powerful, flexible, can manipulate large volumes of data, and are easy to use. They also carry some serious risks. Simultaneously powerful and perilous, spreadsheets have become a critical resource for tax departments, even a de facto unpaid team member. 

Spreadsheets are now vital to Tax functions, to compile, correct, manipulate, calculate and present data for everyday tax analysis and compliance requirements. They are the primary method of performing often complex tax calculations. They have enabled enormous gains in data management efficiency, but spreadsheets are tools, and like any tool, without proper process, control and governance, they can be dangerous and give rise to a false sense of security. The consequences can be serious: the nature of the mistake (minor) is often not correlated with the value involved (a lot). Once an incorrect formula or data entry gets built into a spreadsheet undetected this can have a multiplier effect impacting many companies and periods.

Once an incorrect formula or data entry gets built into a spreadsheet undetected this can have a multiplier effect impacting many companies and periods.

Tax authorities are increasingly focused not merely on the policies, intentions or indeed outcomes of large groups, but on the processes and controls ensuring their policies are correctly reflected in their accounting systems. With increasingly complex business operations and tax rules, using a spreadsheet to update, track and calculate intercompany charges can become a full time role, and the ability to spot mistakes is lost amongst complex calculations, links and tabular formats. Proper data management controls and tools are crucial to minimising the risk of these mistakes. A generalist spreadsheet tool with open access to anyone in the department is highly likely to fail these risk controls. 

Transfer pricing calculations are typical of this risk

Many multinational groups arrive at their transfer prices by means of data-intensive calculations, performed via spreadsheet. Spreadsheets are the number one tool for intra-group service cost identification, allocations and recharges. However, we repeatedly see the calculations fail controls, review and audits both internally and externally from tax authorities in a number of areas:
  1. Source data: There are a number control failures related to source data: What is the process?  When and what data is pulled from the source system/s?  What if there are changes to the source data? Services must be identified, the associated costs quantified, separated and mapped to the functions, as well as excluded (e.g. shareholder costs). This requires data from the service provider’s accounting system to be correctly tagged, another area of risk.
  2. Data extraction: Data must be extracted to the workbook in which the calculations are performed, correctly, completely and up to date. Data extraction is generally performed manually in order to transfer data between local company accounting systems and the transfer pricing calculation workbook – we see critical errors and failures in controls surrounding this extraction process – but the data underpins the entire calculation. Further it needs to be reconciled back to the core system and data – a step often overlooked.
  3. Calculation: The formulae in the workbook itself must be accurate, applied consistently and based on policies or principles which accord with the arm’s length principle. Even if set up correctly in advance, these are prone to subsequent manual changes if not hard coded. Conversely, hard coded entries may have been made erroneously without explanation or identification. Inconsistent formulae are flagged, but the implications of any flags are not always understood or acted upon. Different transfer pricing mark-ups are often applied (depending on the activity type and supporting benchmarking) and entered manually. 
  4. True-ups: Finally, any actual charges imposed (more inputs) must be subtracted from the calculation in order to arrive at appropriate true-ups (taking into account foreign exchange movements). More risks here, from manual processes with few or no controls applied.

Most dangerous of all is the bespoke spreadsheet, understood by its creator (probably a tax professional, not an expert in spreadsheet design) but indecipherable to anyone else.

This individual’s design preferences may differ from those of managers reviewing the outcomes or of senior executives signing off. Users may make well-meaning but misguided contributions by changing or replacing formulae. This can be a nightmare when a successor takes on the role and very difficult to review or audit without repeating the calculations using, you guessed it, another spreadsheet!

And all this is bad enough for a relatively straightforward cost-plus services computation. Where the transfer pricing model involves the use of a profit split method, and the arm’s length pricing is even less easily traced back to transactions booked in General Ledger, the difficulties become greater still. When restructuring is planned, any arm’s length compensation for the restructuring itself must be based on reliable pre-restructuring data and post-restructuring projections.  The post-restructuring pricing must then be correctly implemented throughout the group accounting systems.

Unfortunately, confusion or lack of awareness of risk controls means that these potential breaches are not always identified, reconciled, or controlled. Changes can be made without recording when, by whom, or the reason. This precludes an effective audit trail and disrupts the basis of the group-wide TP policy. The consequences can be highly damaging, both in immediate tax terms (plus interest and penalties) and to the level of tax authority scrutiny, the group can expect in the longer term, with associated resource consequences.

This is not just a tax function concern. Large UK groups must appoint a Senior Accounting Officer to certify that reasonable steps have been taken to support the integrity of the group’s tax accounting arrangements. Personal liability may arise. Further, in March this year, the UK Government released its proposals for major reforms to UK corporate governance, including stronger UK internal controls. Similar in concept to the US Sarbanes-Oxley regime, the recommendations on UK internal controls are far-reaching, including posited personal accountability for Board members. The ongoing demands for transparency, such as the EU’s likely requirement for large groups to publicise much of their country by country data, carries with it the risk of additional costs and reputational damage, especially if any of that data is incorrect.

Ensuring that a group’s transfer intercompany transactions are consistent with the arm’s length principle requires an operational transfer pricing review of the end to end: creation, forecasting, calculation, and implementation of intercompany charges – with sound internal controls and governance, reliable processes, and clear responsibilities, as well as the use of focused technology to manage and reduce the risks.

What to do? Start with understanding of your current state of affairs in operational transfer pricing:

  • What are your governance and controls?
  • What are your processes end-to-end? Are your processes standardised? Are they documented?
  • Who is involved in the process at each stage? Is the Tax team Responsible and/or Accountable? Are responsibilities clearly defined?  How much resource is deployed managing these processes across the group and is this centralised or dispersed?
  • Does financial data have to be significantly re-worked before it can be used by TP? Where does the data come from, how is it processed, calculated, journaled, invoiced and reported?
  • Do you heavily rely on spreadsheets?
  • Understand what technology solutions you currently use for various financial processes: ERP, financial reporting, procurement, expenses, the list goes on.  How do you connect these seamlessly? How do you map the data? How do you ensure that the right source of data is used for TP purposes?  
  • How well do your local teams understand the data and can they explain it to tax authorities?

Once the initial assessment is done, ask yourself: do you trust your numbers and where do you want to be in a few years’ time? We have been working with clients of various sizes to address these challenges, helping them to increase the robustness and efficiency in their TP process and to identify the right technology to help control these processes, whether off the shelf or customised, styled to fit the budget and shape of the business. Our offering is entirely scalable to suit the size of your business and we welcome the opportunity to discuss with you how our transfer pricing offering is able to reduce the risks associated with operational transfer pricing and add significant value to your business.

Spreadsheets are an important and useful tool in the tax function, but they also attract significant risk when they become a critical part of the day-to-day transfer pricing processes. Don’t let these risks destroy their value.