ndirect tax is an essential source of revenue for governments, and businesses are responsible for collecting and remitting indirect taxes to tax authorities. The problem is the laws around the indirect tax system keep changing at a rapid pace.
Is it any wonder then, that finance teams are feeling the pressure of having to keep up-to-date with these changes in order to stay compliant? This can be a challenging and time-consuming process, which is why it is important to understand the key challenges facing finance teams and the best ways to tackle these.
In this article, we will explore the most common indirect tax issues and challenges faced by finance teams and the impact this has on businesses. We will also look at how to identify indirect tax risks, strategies for managing compliance and how to overcome indirect tax challenges.
What is indirect tax?
Indirect tax is a type of tax that is levied on goods and services rather than on income or profits. Indirect taxes can be imposed on a wide range of goods and services, such as sales tax, value-added tax (VAT), excise duty, customs duty and other similar charges.
They’re usually passed on to consumers through the prices of goods and services, and businesses are responsible for collecting and remitting these taxes to the relevant tax authorities.
The most common challenges facing finance teams
A study from Vertex sought to uncover the biggest indirect tax challenges facing finance teams right now. The survey of over 700 senior finance professionals found that these are the biggest issues they’re facing right now:
1. Keeping up with the complexity of differing tax laws
One of the most significant indirect tax challenges faced by finance teams is the complexity of indirect tax regulations. Different countries have different indirect tax structures, which can be difficult to navigate, such as varying VAT rates, exemptions, reduced rates or zero-rated items.
For example, the US and India both have different tax rules for each state, and in America, there is also a separate tax at the federal, state and local levels. Not only this but in China, there are 30 different provinces, each with different tax laws.
Finance teams need to be aware of these differences and ensure that they’re complying with the relevant regulations.
2. Changing regulations
As we briefly mentioned earlier, these rules and regulations also change quite regularly. This means that as well as keeping up with different regulations across cities, states and countries, businesses must also know if and when these changes happen and what the new regulations are.
3. Incorrect calculations
This one is a bit of a three-part challenge that finance teams are facing. Firstly, there’s the worry that businesses may incorrectly calculate indirect taxes themselves, which can result in underpayments or overpayments.
Secondly, some businesses may fail to account for exemptions and deductions, which can result in overpayments.
Finally, they must work even harder to avoid tax penalties as a result of incorrect vendor-charged taxes and VAT treatments. It’s essential that finance professionals check that all vendors are charging the right tax to avoid overpaying. This is time-consuming and adds extra pressure to the team.
4. Large volumes of transactions
Another indirect tax challenge is the volume of transactions that businesses need to process.
Depending on the size of the business and the nature of its operations, the finance team could be dealing with hundreds or even thousands of transactions every day. Each transaction needs to be accurately recorded and reported for indirect tax purposes, which, once again, can be a time-consuming process.
5. Manual processes are becoming unsustainable
A lot goes into managing and tracking indirect taxes, particularly with the ever-changing regulations. As such, relying on manual processes is quickly becoming unsustainable and insufficient.
Often the finance team will check invoices themselves. Not only does this rely on a high level of specialized expertise, but it also requires complete accuracy. This imposes enormous demands on these individuals and takes a huge amount of time and energy.
6. Tackling time constraints
Finally, too many businesses are having to tackle complex time constraints. As with everything in the business year, taxes must be completed on time. Some businesses are failing to file their tax returns on time, which can result in financial penalties. This puts further pressure on the finance team and the business as a whole.
What’s more, they must be able to provide accurate and timely sales reports and tax returns to leaders within the company. This is important for analyzing business performance each year and identifying if the company is hitting its financial goals.
The impact of indirect tax on businesses
Indirect tax can have a significant impact on businesses. Firstly, failure to comply with regulations, even unintentionally, can result in serious financial penalties. It can also increase the legal risks, and could damage your company’s reputation.
These risks can be particularly significant for businesses that operate in multiple jurisdictions, as they need to comply with the indirect tax regulations of each country, state and possibly even city, depending on local laws.
In addition to the compliance risks, indirect tax can also impact a company’s cash flow, as these are typically paid by the business and then passed on to the consumer through the price of goods and services.
However, there can be delays between when the business pays the indirect tax and when it receives payment from the consumer. This can impact cash flow, particularly when dealing with large volumes of transactions.
4 strategies for managing compliance and overcoming these challenges
Overcoming indirect tax challenges requires a proactive approach to managing compliance.
Businesses need to stay up-to-date with the changing indirect tax regulations - but that’s not all. There are several other strategies that businesses can use to tackle these challenges as effectively as possible:
Identifying the top indirect tax risks
This is an essential part of managing indirect tax compliance. By being aware of these risks, finance teams can take proactive steps to mitigate them. The good news is there are several ways that businesses can identify these tax risks:
- Conducting regular indirect tax risk assessments: Businesses should conduct regular indirect tax risk assessments to identify potential risks. These risk assessments should consider the nature of the business's operations, the countries in which it operates, and the types of goods and services that it provides
- Reviewing transaction data: Finance teams should review transaction data to identify potential indirect tax risks. This could include reviewing sales records, purchase records and other relevant data
- Staying up-to-date with indirect tax regulations: It’s also important to stay up-to-date with the changing indirect tax regulations to identify potential risks. This could include subscribing to relevant publications, attending conferences and seminars and engaging with external tax advisors
Centralizing indirect tax compliance
Businesses can start by centralizing indirect tax compliance to help streamline their processes and reduce the risk of errors. This could involve consolidating indirect tax functions into a single team, possibly a dedicated branch of the finance team. Alternatively, they could outsource indirect tax compliance to a third-party provider.
Automating indirect tax processes
Automating indirect tax processes can help businesses to reduce the risk of errors and improve efficiency. This could include using software to calculate indirect taxes, automate the filing of returns and generate reports.
Providing training to finance teams
Providing regular training to finance teams can ensure they’re aware of the most up-to-date indirect tax regulations and how to comply with them. This could include training on the relevant laws and regulations, as well as training on the use of relevant software and tools.
The benefits of staying on top of indirect tax compliance
By using the strategies above and staying on top of indirect tax compliance, businesses will see several key benefits, including:
Reduced compliance risks
By staying on top of indirect tax compliance, businesses can reduce the risk of financial penalties, legal risks, and reputational damage.
Improved cash flow
Not only this but by managing their indirect tax processes effectively, they can also improve their cash flow and reduce the risk of delays in payment.
Lastly, by automating their indirect tax processes and centralizing compliance, businesses can improve efficiency and reduce the risk of errors.
The role of technology in indirect tax management
Technology can play a significant role in indirect tax management. There are several technologies that businesses can use to improve their indirect tax processes, including indirect tax automation software. This can help businesses to automate their processes, reduce the risk of errors and improve efficiency.
They might also use data analytics tools as these can help businesses to identify potential indirect tax risks and improve their compliance processes. Cloud-based solutions are also beneficial for streamlining their indirect tax processes and allowing them to access real-time data.
Of course, which tools businesses choose to implement will depend on several factors, including the key challenges they’re facing, whether they need to be compliant across different states or countries and the size of their finance team and operations.
Indirect tax compliance can be a complex and challenging process for finance teams. However, businesses need to stay up-to-date with the changing indirect tax regulations, identify potential risks and implement strategies to manage their indirect tax compliance effectively if they hope to be successful and avoid fines.
By centralizing indirect tax compliance, automating indirect tax processes and providing training to finance teams, businesses can reduce the risk of compliance errors. They can also improve efficiency and realize the benefits of staying on top of indirect tax compliance.
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