As CFOs model their environmental, social and governance strategies, there are a range of ESG-friendly tax decisions to be considered that go well beyond the energy credits that many associate with sustainability.

“This is a topic where there’s a two-way street,” said Kevin M. Jacobs, managing director and national tax office practice leader at Alvarez & Marsal Taxand, during a webinar this week on ESG’s tax implications.  

Financial executives can take advantage of tax incentives such as carbon capture, investment or production tax credits that encourage sustainability through investments and look to make individual and broad tax policy decisions for their companies that are in keeping with ESG-driven firms, he said.  

When it comes to ESG driving a company’s tax policies to meet the social and governance goals of ESG, the path is complicated because the issues are intertwined with so many areas of business, he said. It raises a myriad of questions that can drive decisions on supply chains, entity rationalization, transfer pricing and even executive compensation, he said. 

For example, with supply chain decisions, a company might want to consider using local suppliers and make sure it’s not routing the system around areas where there are higher taxes, with transfer pricing a company would look to make sure they’re paying fair market, and a company would want to consider deductibility issues around executive compensation, Jacobs said.

Tax transparency

In recent years the rise of ESG pressure on companies has begun to dovetail with the push toward tax transparency. For example, in 2019 Royal Dutch Shell voluntarily published its revenue, profit, taxes and other business details in each of 98 countries, according to The Wall Street Journal. 

But even the road to tax transparency itself, which has become a buzzword, is still a gray area. “There are various permutations and degrees to which companies are going to implement this and how they are going to manage their tax risk,” he said. “There’s no one size fits all.”  

Jacobs said the first step for a company pursuing tax transparency is to outline its tax strategy and principles. More private equity firms are doing so and providing documents on their ESG plans to investors, he said. The process ultimately elevates tax issues to a company's board of directors or managing partners. Formalizing the approach also puts the onus on the leaders and says, "You need to pay attention to this. You need to be sure you're dong exactly what you say you're doing," Jacobs said. 

Much of the challenge around ESG stems from the lack of clarity and baseline uniformity to ESG performance disclosure. CFOs aiming to adopt ESG disclosure standards must choose from more than 15 competing sustainability reporting frameworks that vary in detail and scope. There are efforts in the works to change that as the International Sustainability Standards Board (ISSB) aims to become the global standard-setter for sustainability disclosure but for one expert said many companies are still "managing blind."