Wednesday, August 13, 2008

GAO Tax Study Released; Private Cos Request Exemption From FIN 48; COSO Deadline This Week

Yesterday (Aug. 12) the U.S. Government Accountability Office released a report updating its earlier studies on differences in reported tax liability of Foreign Controlled Domestic Corps (FCDCs) vs. U.S. Controlled Domestic Corps (USCCs). See GAO report.

As noted by Jesse Drucker in the Wall Street Journal today, “Corporate Tax Reporting Draws GAO Scrutiny,” the report found that “At least 23% of large U.S. corporations don't pay federal income taxes in any given year… [and] at least 60% of all U.S. corporations studied -- which also includes many smaller companies -- reported no federal income-tax liability during the period studied, 1998 to 2005.” [Note: This data can be found in Table 1 of the GAO report, on printed page 23 (pdf page 27) of the report.]

Drucker emphasizes the fact that the GAO study “didn't reach any conclusions about why so many corporations reported no tax liability,” noting prior research has focused on the gap between book (i.e. GAAP) and tax income. However, the impetus for this particular study was not the broad topic of book vs. tax income, but the topic of transfer pricing, as noted in the final paragraph of Drucker’s article, in which he describes transfer pricing as, “the method that companies use to allocate costs and revenue between different tax jurisdictions.”

The transmittal letter to Senators Carl Levin and Byron Dorgan in GAO’s report states: “In response to your long-standing concerns about whether foreign-controlled U.S. corporations are abusing transfer prices and avoiding U.S. income tax, we compared the tax liabilities of foreign- and U.S.-controlled companies incorporated in the U.S. in three prior reports.”

Although GAO found “FCDC’s and USCCs differed in age, size, and industry,” they noted it was not possible to isolate the impact of transfer pricing among various tax and non-tax related variables. Additionally, “As agreed, we did not attempt to determine whether corporations were abusing transfer prices. Nor did we attempt to determine the extent to which this abuse explains any differences in the reported tax liabilities of FCDCs and USCCs.”

GAO made an observation which I believe is important to keep in mind generally, concerning potential limitations on the ability of research reports to isolate causative factors for observed results. GAO states: “Researchers have used direct and indirect methods to estimate the extent to which transfer pricing abuses explain the differences in reported tax liabilities… In some of these studies, statistical methods are used to explain as much of the difference in reported tax liabilities as can be explained by the nontax characteristics and the remaining unexplained difference is identified as the upper limit of the difference that could be explained by transfer pricing abuse.” GAO cites some of these studies in footnote 4 of its report, and continues, “However, how close this upper limit estimate is to the actual effect of transfer pricing abuse depends on how many of the important nontax characteristics have been included in the first stage of the analysis. As noted above, data are unavailable for some important nontax characteristics.”

FEI Committee on Private Companies, Backing Request of FASB-AICPA’s PCFRC, Asks That Private Companies Be Exempted From FIN 48

In other tax news, FEI’s Committee on Private Companies, standards subcommittee, filed a comment letter with the Financial Accounting Standards Board yesterday (Aug. 12) asking that private companies be exempted from FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes (FIN 48

The FEI letter backs a similar request made on May 30 by the Private Companies Financial Reporting Committee (PCFRC), a joint committee of the FASB and American Institute of Certified Public Accountants chaired by Judith O’Dell.

“For the record, we wish to support the position that [the FASB-AICPA PCFRC] committee has taken to ‘exempt private companies from all the requirements of FIN 48,” states the FEI Committee on Private Companies letter, signed by standards subcommittee chair William Koch.

FEI's Koch adds, “The purpose of this letter is to point out that there is a very salient and relevant argument that was not mentioned in Ms. O’Dell’s letter. We wish to emphasize that the vast majority of private companies are pass through organizations, and as such, the bulk of the income tax attributable to the income of the firm is paid by the owner and not by the firm. Therefore, we believe that the requirement to spend accounting and auditing effort on the minor portion of tax that is paid by the firm on behalf of the owner is requiring the firm to spend limited resources on an issue that should not be given such a level of importance.” Further details can be found in the FEI Committee on Private Companies’ letter.

Earlier this year, FASB issued FSP FIN 48-2, deferring the effective date of FIN 48 for certain nonpublic entities “to the annual financial statements for fiscal years beginning after December 15, 2007.”

COSO Comment Deadline Aug. 15
As a reminder, the deadline for comments on COSO’s Exposure Draft, “Monitoring Internal Control Systems,” is Aug. 15. The Exposure Draft can be found on COSO’s website, FEI’s Task Force on Monitoring (TFM) commented on the earlier Discussion Document (DD) released by COSO last year on this project (see comment letters on 2007 DD - note these are letters on last year's DD, not this year's Exposure Draft), and FEI TFM is planning to file a comment letter on the 2008 Exposure Draft later this week. Your views count - as noted in the COSO Chairman's letter accompanying the 2008 Exposure Draft, a number of changes were reflected in the 2008 Exposure Draft based on comments received on the 2007 Discussion Document.
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