ESG and Tax: An Opportunity to Leverage Tax Credits, Increase Transparency

  • Tax strategies
  • 6/28/2023
Businesspeople discussing at conference table

Key insights

  • By leveraging clean energy tax credits, companies can proactively align their tax strategies with their ESG objectives.
  • Clean energy credits can generate cash tax savings to help finance capital investments.
  • Integrating ESG principles and transparent tax practices can help you build trust with stakeholders and attract socially conscious investors and customers.
  • Proactively disclosing tax-related information can help your organization adhere to regulatory requirements and leverage transparency as a strategic tool.

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The business landscape has evolved with an increased focus on corporate responsibility, encompassing Environmental, Social, and Governance (ESG) considerations. Companies — from large multinationals to small privately owned businesses — are incorporating ESG and sustainability practices in their strategy as it becomes increasingly important for consumers.

Simultaneously, there has been increased emphasis on tax transparency and accountability for companies both domestically and abroad. Recognizing the interconnectedness of these issues, many companies are now actively integrating ESG principles into their tax strategies, seeking to better align their financial practices with their broader sustainability goals.

Learn how the relationship between ESG, tax transparency, tax credits, and strategy can help create long-term financial and non-financial value for businesses.

ESG: An emphasis on corporate responsibility

ESG has gained significant traction as shareholders, investors, consumers, employees, and regulators increasingly demand companies prioritize sustainability and responsible practices. Integrating ESG principles into business operations can help mitigate risks associated with climate change, social inequalities, and governance failures while also driving long-term value.

ESG encompasses three primary areas of sustainable business practices around environmental factors, social considerations, and governance.

A company’s environmental impact:

  • Natural resources
  • Biodiversity
  • Climate change
  • Wastewater management
  • Energy efficiency
  • Pollution

How a company treats social considerations:

  • Employees’ health
  • Safety and well-being
  • Human rights
  • Workplace diversity and inclusion
  • Contribution of taxes towards local communities

The organization’s internal structure and governance:

  • Leadership
  • Board diversity
  • Executive compensation
  • Business ethics

Tax transparency: Enhancing corporate accountability

There are three ways ESG reporting can enhance transparency and affect tax disclosures:

  • It increases the scope of reporting to non-financial, material factors such as carbon emissions and workplace racial and gender diversity, which themselves have tax implications.
  • It emphasizes the link between governance and transparency, which is fundamental to trust.
  • An ESG-based approach to tax reporting is not just about publishing data, but rather about having a tax strategy and a narrative around that strategy aligned with the company’s overall values.

Tax transparency doesn’t mean you need to reveal anything that jeopardizes your business or competitiveness. Rather, it refers to how you disclose tax payments, policies, and structures, providing stakeholders with insight into your tax practices. If you volunteer information such as a list of risk management initiatives or tax contribution figures, it shows the impact and contribution your company has on its community.

There is a growing demand for transparency as many in the general public feel corporations should pay their fair share of taxes and contribute to their local communities. Transparent tax practices build trust with stakeholders — including investors, customers, and communities — by demonstrating a commitment to ethical behavior and responsible financial stewardship.

For example, a company disclosing it obtained tax credits for building an energy efficient manufacturing facility — which can reduce its carbon footprint and provide a more livable community — is a positive thing to highlight publicly.

Proactively disclosing tax-related information can help your organization adhere to regulatory requirements and leverage transparency as a strategic tool. By providing detailed insights into your tax strategies and payments, you can demonstrate alignment with ESG goals and your position as a responsible corporate citizen. This transparency can foster trust, improve reputation, and help attract socially conscious investors, customers, and employees.

Tax credits: Incentivizing responsible behavior

Federal, state, and local governments offer tax credits as financial incentives for businesses that engage in specific activities aligned with public policy goals. These incentives aim to drive innovation, spur investment in sustainability initiatives, and reward companies for responsible behavior.

Inflation Reduction Act Credit Monetization Programs Take Shape 

In August 2022, President Biden signed into law the Inflation Reduction Act (IRA), which provided the largest investment in clean energy in U.S. history, including over $370 billion in funding and tax incentives related to climate change. This funding was intended to spur investment in cleaner energy not only by traditional energy companies, but also by companies in other industries including manufacturing and distribution, construction, transportation, healthcare, and financial services.

The law aims to reduce greenhouse gas emissions and generate significant investments by having businesses focus on:

  • Decarbonizing energy production
  • Decarbonizing transportation
  • Building energy efficiency
  • Carbon capture
  • Lower-carbon manufacturing and renewable energy job
  • Tax credit monetization

With the enactment of the IRA, all three letters of ESG are captured

The “E” is highlighted by the environmental tax credit incentives offered in the bill. The IRA extends and expands many tax credits and creates over a dozen new credits to encourage lower-carbon investments in power generation, transportation, industrial production, and real estate.

The “S” for social is encapsulated as the law provides enhanced tax credits to companies if certain requirements related to location, wage, and content are met for qualifying projects. Many credits have bonus provisions, which increase the amount of the credit by as much as five times if the project meets certain job quality and opportunity standards.

Finally, the “G” for governance is covered as the law requires companies to show the IRS they met wage standards and carbon intensity reduction requirements.

Tax credits can help align tax strategies with ESG objectives

Businesses investing in renewable energy infrastructure or adopting sustainable manufacturing practices may be eligible for tax credits. These incentives not only provide tax savings opportunities but also serve as indicators of your commitment to sustainability and responsible behavior. Tax credits can contribute to cost savings, improve competitiveness, and enhance reputation, creating a virtuous cycle of sustainability and financial success.

How we can help

The intersection of ESG, tax transparency, and tax credits can present a great opportunity to enhance your financial performance while driving positive societal and environmental outcomes. Integrating ESG principles and transparent tax practices can help you build trust with stakeholders and attract socially conscious investors and customers.

Dig deeper into the tax implications of ESG-related decisions. CLA’s sustainability and ESG professionals can help you develop a strategy to proactively navigate tax risk and planning opportunities, while also being thoughtful about environmental, social, and governance considerations. Contact us for assistance.

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