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Operational risk and tax: how should CROs respond?

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Regulators have shown recently that they have an appetite to penalise and fine banks that have engaged in, or facilitated, tax evasion or avoidance. As these activities are closely linked with operational and conduct risk, how could CROs aid in mitigating tax risk? Colin Graham, Global Financial Services Tax Leader, PwC UK and Matthew Barling, Partner, PwC UK, explore.

The low down

In our previous article we highlighted how the shift of focus from technical tax risk to the execution of tax across an organisation is cause for CROs to engage more with the tax function to gauge the level of operational risk. Another area of tax risk, and an emerging trend where an organisation’s CRO may wish to pay very close attention, is the range of new powers that regulators and tax authorities have where they feel a taxpayer has engaged in, or facilitated, tax evasion or aggressive tax avoidance. Recent experience has shown that authorities have the appetite to levy very material penalties and fines on those banks who they feel have engaged in such activities. In particular, the link between these events and the calculation of operational risk capital should be considered by CROs as these are often linked to operational or conduct risk management failures.

Increasing levels of operational risk losses due to tax may feed through to increase levels of required operational risk capital either based on banks’ own internal risk models or in extreme cases where regulators could also direct banks to hold increasing levels of capital.

Bringing it to life

Two areas of focus that could lead to significant tax risk are the requirements around Corporate Criminal Offence in the UK which carries with it an unlimited fine if successfully prosecuted and DAC 6 Mandatory Disclosure requirements across the EU. These rules have extremely wide application and go to the heart of how banks operate, the products and services they provide, and how the bank and its customers may use the products. Ensuring compliance with these new rules requires a multifaceted cross functional approach to manage the relevant risks which will arise across the organisation.

How should CROs respond?

Given the potential material impact of tax related operational risk events, the CRO should work with the Head of Tax to ensure appropriate arrangements are in place to manage tax risk and any related capital impacts.

Under both the Advanced Measurement Approach (AMA) and the Standardised Measurement Approach (SMA) for measuring regulatory capital, the key issue for the CRO will be to ensure that there is an appropriate Tax Control Framework (“TCF”) in place that identifies, assesses, controls, monitors and mitigates tax risk. The CRO will look to the Head of Tax to have such a framework in place that is consistent with the institution’s wider Enterprise Risk Management / Operational Risk Framework.

The existence of a TCF should lead to both the effective management of tax risk as well as yield operational risk capital benefits in that it should reduce the frequency and severity of tax risk losses leading to a lower operational risk capital requirement over time.

A final consideration for the CRO should be to work with the Head of Tax to “horizon scan” and consider material tax loss events that arise in the market to feed into the banks’ own risk assessment. Ensuring there is a robust approach to managing tax risk internally whilst monitoring the external environment should be a key focus for the CRO going forward.

© 2019 PwC. All rights reserved. PwC refers to the PwC network and/or one or more of its member firms, each of which is a separate legal entity. Please see for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with a professional advisor.

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