The Directors’ Compliance Statement (DCS) obligation, in section 225 of the Companies Act 2014, is beginning to have a substantial impact on how in-scope companies address their Irish tax compliance obligations. The requirement for directors to attest to the company’s arrangements for compliance with tax law (as well as significant company law obligations) has added to the growing trend for formalisation and deepening of tax control frameworks.
The DCS obligation applies to directors of certain Irish-incorporated companies. Those in scope are public limited companies (excluding investment company plcs) regardless of size, as well as private companies with limited liability which have (a) total assets of more than €12.5m at period end and (b) turnover for the period greater than €25m. Therefore, the obligation is not applicable to any unlimited companies.
For the directors of in-scope companies, the DCS formalises further their personal responsibility and exposure in relation to the company’s compliance with tax and company law.
A brief history
The idea of the DCS pre-dates the 2014 Act by more than a decade. As many compliance and tax professionals will recall, section 45 of the Companies (Auditing and Accounting) Act 2003 made provision for an even more onerous version of the DCS, relating to compliance with a very wide range of statutory obligations.
The response to Section 45 from a variety of sources prompted the government to refrain from an immediate commencement order and eventually to refer the issue to the Company Law Review Group. That Group’s report on the issue included a reduced compromise proposal, which has been substantively enacted as Section 225. Some of the main changes included the narrowing of the range of legal obligations, the reduction of the scope of the statement and a greater reliance on the subjective judgement of the directors.
However, as the full range of Irish tax obligations is still in scope of the DCS, the potential impact for tax management remains substantial. This is explored further below.
The DCS obligation
The obligation is for directors of in-scope companies to include a Compliance Statement in the Directors’ Report in the annual financial statements, for all periods commencing on or after 1 June 2015, which must:
There are several points that should be borne in mind in responding to the DCS obligation.
Firstly, the fact that the statement is generally founded on the directors’ discretionary judgement, rather than an objective assessment, should provide some comfort to directors and management. In addition, the wording relating to “reasonable assurance” of “material compliance” provides a certain amount of latitude for the board in its review of the level of robustness of the company’s compliance arrangements. The guidance produced by the ODCE in 2004, in relation to the corresponding wording in Section 45 of the 2003 Act, states that this wording was “intended to prevent directors having to give a negative opinion on their company’s compliance where there has been a failure that is insignificant.”
It should be noted that the 2004 guidance is not in any way binding and related to the previous (non-commenced) incarnation of the DCS. However, given the source of the guidance, it still remains useful in considering those elements of the original 2003 wording that survive in Section 225 of the 2014 Act.
The 2004 guidance also contain interesting comments which may be useful in considering a second area which provokes some discussion, i.e. whether a board can make the specified confirmation around its compliance arrangements if those arrangements are not in place from day 1 of the relevant accounting period. The guidance comments on a scenario where
“..the procedures for securing compliance were defective, where this weakness became apparent to the directors during their annual review or to the company’s directors or managers at any other time, and immediate and effective steps were taken to rectify the non-compliance and to review, in consultation with the directors, the adequacy of the associated procedures.”
It is stated that in this case, the directors may be able to make a positive annual statement. This appears consistent with the fact that the wording of the DCS does not specify that the required compliance arrangements have been in place throughout the entirety of the relevant period. Of course any delay in identifying and addressing areas to be strengthened would be inadvisable, given the necessity to ensure implementation and review of the compliance arrangements during the period.
A third point of interest is that Section 225 does not generally prescribe what arrangements would be expected to be in place to allow directors to make a positive annual statement. The only specific indication in this area is contained in sub-section (4) which states that the arrangements “may include” reliance on personnel (internal or external) with suitable expertise to support compliance. This indication is permissive rather than mandatory and the reliance on experts is not portrayed as being sufficient on its own. However, the manner in which the company avails of the support of tax and company law experts is certainly an aspect of a company’s arrangements that needs particular consideration.
What does this mean for tax management?
The degree of attention which tax compliance matters receive actively from a board of directors can vary from company to company, and from period to period. However, it is certainly the case that, in common with broader compliance matters, there has been a trend of increased attention at board level over the last 10-15 years on the issue of tax compliance and tax generally. The disruptive financial, operational and reputational impact of tax compliance failings is far less likely to stay under the radar of board or audit committee attention in the current climate.
The introduction of the DCS obligation will add further to this level of board scrutiny. A board of directors may have been concerned to date with knowing if the company was compliant. Now, for companies in scope of the DCS, the board will also need to know how such compliance is achieved and ensure that it can continue to be achieved.
Naturally, this will mean a greater focus of attention on the tax function (or the finance executive responsible for tax where there is no in-house tax team). Inevitably this will mean some level of assurance being required by the board to underpin their compliance statement. What form such assurance might take will of course vary across affected companies. However, for a Head of Tax, this increased attention can have some positive impacts, e.g. a greater consciousness of the value of the tax function and increased leverage to achieve enhancements to the tax control framework.
But the spotlight will not shine solely upon the tax function. Any functions carrying out significant activities that are on the critical path of tax compliance activity will be likely to experience some increased scrutiny and/or formalisation of their tax-related procedures and controls. Areas such as Payroll, Accounting Operations teams and any business teams responsible for parts of operational tax obligations will need to ensure that they can provide whatever assurance might be required to support the annual compliance statement (and to respond to the required annual review underpinning a positive statement).
Of course, this is not to say that every in-scope company will have to engage the construction of a whole new tax control framework. The vast majority of companies will validly consider that they are actually achieving material compliance and in many cases will consider that they have a sufficiently comprehensive and robust system of control to, at least, form the core of the required compliance arrangements. Such control systems, in many and perhaps the majority of cases, may not have tax compliance as their primary purpose, but still contribute materially to the tax compliance framework. The task of supporting a positive annual compliance statement may be as much a matter of identifying and documenting what is already in place, as it will be the identification and remediation of any residual control gaps.
But what is clear is that the management of tax risk will become increasingly defined, documented and formalised. If it is the case that this can be achieved over time in a cost-efficient and non-disruptive manner, then the revised DCS obligation will have achieved its objectives.
This article was originally published in Finance Dublin.