Principles of Income and Business Taxation
Reducing taxes is beneficial, but why should managers learn the basics of tax
planning? It may seem obvious at first glance, especially to the owner-manager or
corporate entrepreneur. But this is an important question, which can be answered
differently at different times, in different organizations, and for operations in different
countries.
1. Managers need to learn about taxes because optimizing a venture’s total tax
burden is important to its success, and managers are the main decision makers in an
organization
2. Knowing the fundamentals of taxation and how to apply them allows managers to
make better decisions and thus be more effective in their jobs.
3. Managers who are able to identify tax issues can also make more effective use of
tax consultants, because these managers can recognize a problem when it arises
and advise consultants of the tradeoffs involved.
SAVANT BALANCES THE BENEFITS WITH THE COSTS OF TAX PLANNING
All in all, there are many factors that combine to motivate managers of organizations to
seek to reduce taxes, provided the cost of doing so is not too high. This is because tax
planning requires making changes, and doing so is not cost free, nor are the rewards
certain. First, the details of taxation are hideously complex. Second, the cost of
complying with tax rules (e.g., preparing tax returns and providing details requested by
tax auditors) can be significant. Not only can it be costly to figure out how much to pay
but also who to pay and when to pay.
Goal of Tax Planning
-The goal is to balance the benefits against the risks and costs.The ultimate goal is to
reduce taxes while not excessively intruding on the organization’s overall operations
-Optimizing taxes rather than minimizing them.
SAVANT CONCEPT
Tax Management:
Effective tax management means employing the SAVANT principles to every
important transaction. It also means periodically scanning the environment to see what
has changed that would require new tax- management strategies. Both the
transaction-oriented and the time-oriented approaches are discussed in the next
section.
Involvement in Transactions:
All too often, important business transactions are structured without considering taxes.
Subsequently, tax specialists are brought to see how taxes can be saved (if at all),
given the already agreed-on form of the transaction. Instead, managers should
consider taxes simultaneously with all other costs. The power to tax a firm’s income
effectively makes U.S., foreign, state, and local governments partners in the firm.
Managers should strive to minimize such partners’ shares of the firm’s value-added.
SAVANT is an accronym for S-Strategy, A-Anticipation, VA-Value-adding, N-
Negotiating, and T- Transforming.
SAVANT is designed to help investors and managers (who do not need to know the
details of the tax code) work with their tax consultants to make better decisions,
identify opportunities for tax savings, and increase the value of their businesses:
Strategy
-Tax Management should work to enhance firm strategy and
not tax minimization Firm’s Business Level Strategy
1. Operational Level - create value for customer through their product. The
company should gain competitive advantage over its competitors
2. Corporate Level - focus on diversification ( expand business, develop more
product or services, invest in properties, buy/sell properties, etc)
3. International Level - taking advantage of corporate and business strength in
global market.
Anticipation
– Anticipate future changes in market conditions and tax rules.
Anticipate actions of:
1. Market - demand and supply of product and/or services
2. Competitor - marketing and branding
3. Government - laws and regulation ( changes in tax laws)
The firm needs to adjust timing of transaction in anticipation of expected tax
changes. For Example: HOK Herbals and Medicals is engaged in
A) manufacturing and selling herbal beverages
B) manufacturing and selling medical drugs.
Due to the COVID 19 pandemic, the business of manufacturing and herbal
beverages is not doing well. Moreover, the passing of INUMIN LAW imposed
15% excise tax on any kind of manufactured powdered beverages and greatly
affects the herbal beverages of the company. Another Tax Bill is being created
to give additional deductions to COVID Medical Kits up to 50% and most likely
to be passed as MED Law at the end of the year. In anticipation of this tax laws
will greatly affect the business, the company is planning to
Option 1: shut down the manufacturing and selling of herbal beverages
and use the facility to manufacture medical kits instead.
Option 2:shut down the manufacturing and selling of herbal beverages
and use the facility to manufacture medical kits instead.
Option 3: Do not shut down the manufacturing and selling of herbal
beverages and invest in the facility to manufacture medical kits
Value-Adding
– the tax management decision should add value to the company
1. Look at expected net cash flows, administrative costs, and risks to maximize the
after-tax value.
2. If the Net present value of the cash flows from a transaction is positive, then
over time, this will t
Example:
During the board meeting of HOK Herbals and Medicals Inc. The Planning
Team presented to the board the possible financial effect of the options
provided with tax laws taken into consideration.
The report also takes into consideration the market share, supply and
demand and possible actions of competitors. The net present values per
report are as follows:
Option 1: -20,000
Option 2: 500,000
Option 3: 160,000
Negotiating
– Work with other parties( example: suppliers) to the transaction to shift
benefits and burdens, and negotiate with the government to increase your tax
savings
Example: In selling a land not used in business you are anticipating a 6% capital gains
tax base on the selling price or fair value whichever is higher. You also anticipates an
expenses in processing the transfer of title. You determined that the 6% CGT will be
higher than the expenses in processing the transfer of title, you will try to negotiate that
the CGT will be shouldered by the buyer and you will bear the burden of all
the processes in transferring the title.
Transforming
– Convert income and expenses into categories with the most favorable tax treatment.
1. Transforming types of income into gains
2. Certain types of expense into losses
3. Certain types of taxable income into nontaxable income
Example: losses on sale of capital assets are deductible only to the extent that the
firm has capital gains. Thus firm would like to transform capital losses to ordinary
losses.
