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How does outsourcing impact my VAT, tax, accounting and regulatory liabilities?

It is the opinion of Burnt Oak Partners that services in general and outsourcing in particular are not well understood and treated for VAT, tax, accounting and regulatory liabilities in all G20 countries.

On the one hand this situation presents a set of opportunities for structuring a transaction to maximise benefits for the parties to an agreement.  On the other hand the lack of maturity of governments, regulators, accounting principles and many advisers can produce situations where a dramatic element of “surprise” can derail the best intentions.

Outsourcing forces a thorough analysis not just of the current environment but a set of views (with stress testing) of the expected or possible changes in:

  • VAT (or GST)
  • Income tax
  • Accounting treatment and reporting (with the potential impact on financial covenants and ratings)
  • Other taxes based on assets or labour
  • Labour regulations (health and safety, pensions, healthcare)

VAT & Regulatory mitigation Services

The basis for assessing VAT can range from exempt (with potential significant economic impact on the vendor when selling to Financial Services firms or to Government entities) to the location of the recipient of services.  The January 1, 2010 European rules changes for business to business (B2B) services to have VAT assessed relative to the place of service delivery.  This impact was largely underestimated by non European Union suppliers who did not have clauses allowing for such incremental charges to be passed on to clients.  This risk is compounded by the recent increase in VAT rates in some countries.

When contemplating a new outsourcing program the associated tax costs and benefits are generally not analysed early enough and, interestingly, the nature of the outsourcing agreement may impact the treatment of VAT which is of critical importance when dealing with an exempt client.  Multi-country deals and time present unique opportunities and risk which require specialist advice, meaning that such issues must be analysed up front.

Accounting principles changes

The accounting profession is currently reviewing the accounting principles pertaining to the accounting for leases.  The new proposals (earlier referred to as IAS17 and now the “Lease project”) will most likely force far more transactions to be accounted for on the balance sheet.  To that effect the principles currently being considered use a variety of tests on “control” to determine precise accounting between the parties.  Such potential massive change must be taken into account by both client and vendor.

Labour regulatory and related changes

All outsourcing transactions involved direct and indirect labour changes.  Over the life of a transaction changes may have a significant impact on cost but also on the ability of the supplier to rely on on- or off-shore resources.  Lately, increased pension funding requirements (as an illustration) can substantially affect the economics of a transaction if pre-transfer rights and obligations drive large claw-backs.  As a consequence it is increasingly important to “stress test” possible positive and negative developments in order to better estimate the range of possible outcomes ahead of agreeing final contract terms.

What is needed and what Burnt Oak Partners provides is a framework, a methodology for a continuing dialogue throughout the life of the outsourcing agreement.  An outsourcing agreement should fundamentally be viewed as a partnership between service provider and customer, where the benefits to both – evaluated on an after-tax basis – are monitored and maximized over the transaction’s life cycle.