– By Lisa Holmquest, VP, Customer and User Experience at Sovos
Taxes are taxing. American small businesses report spending more than 80 hours per year on taxes, while enterprises have dedicated in-house and external accounting teams to handle the load. Yet with each passing year, our tax system only gets more convoluted. For example, the United States had 2,148 proposed tax-related bills in Spring 2021 – a 213% year-over-year increase.
In addition to regulatory changes, governments are also increasingly digitizing their business tax processes to reduce tax gaps – forcing companies to report and file electronically on tighter deadlines. This combination can create a dizzying headache for businesses that are using manual tax processes.
Now, imagine doing business in multiple states or multiple countries and having to comply with those jurisdictions’ tax codes and tax digitization processes. That’s when the headache becomes a migraine.
Fortunately, the cloud offers an effective tax compliance infrastructure for businesses that on-premise software cannot match: tax automation. Not only does tax automation help companies calculate, remit and report taxes, but the flexibility of an as-a-service solution ensures it can be seamlessly updated to reflect changes in tax regulations as they occur. By streamlining this process, tax automation ultimately minimizes audit risks for businesses and helps governments collect more of the taxes they’re due.
A Brief History: The Coming of the Cloud
Over the past 10 years, digital transformation has accelerated across all sectors but what is noteworthy is that some governments have raced ahead of corporations when it comes to migrating tax processes to the cloud. Governments have been early movers because the traditional method of summarizing and reporting taxes after-the-fact delays tax collection and leaves opportunity for misreporting. These errors can result in treasuries inadvertently receiving less than they are owed, often referred to as tax gaps. Governments have realized that by bringing tax processes onto the cloud, they could minimize errors, get sales data closer to when the transaction happens and ultimately, increase public revenue.
The digitization of taxes in the early 2000s gave birth to continuous transaction controls (CTCs), which mandated that businesses’ send government invoice data in real-time or near-real-time. CTCs have allowed governments to close gaps in their collection of value-added taxes (VATs), the tax regime that most countries outside North America use in place of North America’s Sales Tax. Perhaps more important, transaction-level data has enabled governments to make important economic and sector-based policy informed by near-real time data.
Implementing CTCs carries the expectation that businesses’ data systems must continuously communicate with governments’ tax systems. This real-time, two-way communication necessitates that both sectors operate in the cloud. Considering that most governments with VAT in place will likely implement CTCs by 2030, the race for IT departments to move tax processes to the cloud is here.
But the cloud has even influenced tax reporting expectations for governments that haven’t yet implemented CTCs — for example, the U.S. Treasury and the Internal Revenue Service (IRS) has proposed new tax regulations governing cloud-based transactions. Faced with a fast-paced, rapidly evolving and increasingly digitized tax regulatory environment, corporations’ use of tax software has become more important than ever. But it also benefits them by making compliance easier to navigate.
Compliance Becomes Convenient
Tax requirements frequently change as governments and other taxing authorities introduce new legislation. For example, India first announced it would mandate e-invoicing in April 2020 – a deadline that was changed multiple times along with scope adjustments, causing much confusion.
Financial executives feel the pressure and the costs that come with keeping track of these changes. A Grant Thornton survey polled chief financial officers about their biggest challenge to business growth in light of changing regulations, and the second most cited challenge was keeping up with the volume and complexity of regulations. The CFOs’ most cited challenge to business growth was the increasing costs of maintaining compliance.
These obstacles only compound for online sellers and multinational companies. In the U.S for example, states have recently enforced tax collection and remittance against out-of-state online sellers, meaning that a typical ecommerce merchant went from filing only in their home state to filing obligations in almost all states in which they sell past a certain threshold.
Some online sellers went from preparing a handful of returns to preparing and filing more than 80 returns. Internationally, every country with VAT uses their own system for collecting those taxes. So, multinational corporations that do business in multiple countries must abide by each of those countries’ sales tax and VAT laws.
Tax Compliance is Tough for Governments to Enforce
While compliance can be overwhelming for business, it’s also tough for governments to enforce. The U.S. recently estimated that states fail to collect somewhere between $8 and $32 billion a year in sales tax. The European Union estimated that its 2020 VAT gap could be as much as €164 billion.
Fortunately, cloud-based tax automation solutions take the headaches out of tax compliance for government and businesses alike. Cloud-based tax software can deploy updates on demand, enabling all businesses to immediately receive updates, with no IT involvement or disruption.
Beyond business efficiency and latency gains, cloud-based tax software also enables sales tax audit efficiency. Efficient tax compliance is a near-term strategic imperative within many organizations, especially as they grow and need to manage tax obligations in an increasing number of states. A world-class cloud solution will provide a seller ready access to a vast data repository that can be utilized to readily address even the most expansive auditor request.
The quicker a seller can provide an auditor with clear and accurate data, the quicker the audit will conclude, and the less likely an auditor will return. Simply put, auditors generally don’t waste their time on compliant sellers with buttoned down sales tax processes. In fact, in 24 states that are part of the Streamlined Sales Tax initiative, qualifying remote sellers using a certified cloud tax compliance solution can have much of the audit burden and risk lifted off their plate.
Aversions to Adoption for Tax Compliance in the Cloud
Minimizing audit risk and not having to devote as many resources to tax compliance are arguments that corporate tax departments must champion to their IT counterparts. After all, any SaaS implementation requires buy-in from IT professionals whose expertise often doesn’t include tax compliance.
If professionals hesitate to adopt tax automation, it’s usually for any of three reasons:
- They don’t fully understand the available technology;
- They’re concerned about risk; and/or
- They’re concerned about ROI.
First, depending on the size of the organization, most IT professionals probably aren’t familiar with tax automation software. They may think the cloud isn’t secure and that it may not meet their organization’s specific security requirements. They may also have misunderstandings about its ability to integrate with existing enterprise resource planning (ERP) systems. These tasks may seem more costly, painful or daunting at face value than they actually are in practice.
Tax Automation: Misunderstandings in the Cloud
Second, misunderstandings about tax automation often relate to risk. IT departments are beholden to multiple mission-critical departments – product, finance, sales, human resources and on – so prioritizing a cost center like Tax over another project can be difficult to quantify. How does one measure the value of penalties averted? Or the value of future proofing for foreseeable, and mandated, digitization trends?
Lastly, the perceived risk of prioritizing tax over another department can relate to skepticism about tax automation’s ROI. Tax automation’s ROI is best seen as averting the cost of not migrating to the cloud — in other words, the cost of doing nothing. Having to handle monthly tax updates and stay up-to-date on compliance without tax automation help can cost businesses unnecessary resources and penalties
IT departments have the requisite systems expertise but lack the regulatory knowledge to properly form a business case on their own. Therefore, IT departments and tax departments must work closely to properly evaluate the cost of doing nothing, and subsequently plan and prioritize a migration to the cloud.
Few events have illustrated the cost of doing nothing with regards to tax automation as much as the COVID-19 pandemic.
The pandemic forced consumers and businesses into the virtual space, making society more dependent on the cloud than ever before.
That dependence extends to the tax world. The only way to maintain or update on-premise software is to be onsite, and as pointed out earlier, tax software requires frequent updates to reflect the constantly changing regulations. During the pandemic, IT professionals had to travel onsite to maintain and update the business-critical system, highlighting the liability on-premise software presents and serving as stark contrast to other cloud-based systems.
Meanwhile, the pandemic slammed governments, too. Lockdown measures negatively affected nearly every country’s economy, and the slowed-down economic activity caused steep shortages in sales and use tax and VAT revenues across the world. This caused regional and country governments alike to have to make budget cuts and dip into reserves.
As a result, tax authorities around the globe have doubled down on tax enforcement and implemented new mandates to compensate for their revenue shortfalls. These measures increase the risk that businesses face with non-compliance.
This confluence of factors has all but cemented tax automation’s prominence in the future of the tax industry.
Forecasting the Future for the Cloud and Tax Compliance
Looking ahead, future developments point to accelerated tax automation adoption. CTCs are becoming increasingly popular worldwide, and governments will continue to ask businesses for more data on a more frequent basis.
To meet these demands, corporations will need greater control over their financial data, and they’ll need to send transactional data more regularly, sometimes down to the invoice line item. As a result, systems that never previously communicated— like inventory data and transactional data— will have to on a frequent basis.
Tax is viewed in many organizations as an important, but not profitable entity. A necessary evil if you will. In the real world, businesses operate within the framework of a budget. There are not endless supplies of capital, both fiscal and human assets, available to manage and fulfill every project we would like. Prioritization is required and budget dollars most often go to projects viewed as driving business growth.
Tax will never be a source of profitability, but it shouldn’t be a major cost center either. By investing in the correct tools, organizations can collect and self-assess the appropriate amount of tax at the time of transaction – making it more of a pass through as opposed to additive cost. A modern, cloud-based tax solution protects revenue and increases profits.
Benjamin Franklin famously wrote, “nothing can be said to be certain, except death and taxes.” While Franklin couldn’t have predicted tax automation, it too, is certain to stay as tax systems grow more digitized and more variable by the day. The primary uncertainty surrounding tax automation isn’t if businesses will fully adopt it, but when.