Accounting for Taxation of BP and Chevron - Essay Example

Accounting for Taxation Accounting for Taxation Introduction Taxation is a significant element in accompany. The accounting theoriesenhance effective calculation and initiation of tax payable amount by a company. The theories ensure company’s responsibility and tax compliance without avoidance. Taxation affects financial position of firms. It is liability to the company since it has a negative implication on financial statement of the company. The amount of tax payable by companies is dependable on the size of the firm’s income revenue. To ascertain the impact of taxation on financial statement, this project is going to analyse taxation structure of two companies including BP and Chevron oil industries from different countries trading on the same sector. Question A The conceptual framework of accounting holds accounting theories related to taxation together. The framework establishes goal and objectives of financial reporting by businesses. Financial accounting information provides useful information for making business and economic decision such as taxation (Riahi-Belkaoui, 2005, p. 121). The theory that financial reporting should avail significant information for taxation recognizes that reporting does not exist out of the legal, economic, political, and social environment. The conceptual framework of accounting ensures that accounting information in relation to taxation is relevant, comparable, reliable, and consistent (Bebbington, Gray & Laughlin, 2001, p. 97). Comparability and consistency of taxation benefit from having Generally Accepted Accounting Principles (GAAP). Adhering to financial statements to GAAP in relation to taxation means, they are consistent from year to year and the tax difference between various companies can be compared. Therefore, the accounting theories help in practical analysis of taxation in a business. Assumptions of accounting theories The accounting theories of taxation function on four assumptions. The economic entity assumption illustrates that the practices of a business are distinct from the actions of the owner. It means that tax is computed separately for the company’s profit generation. In addition, the income tax of an employee is distinctively calculated in relation to the amount of salary gained. The going concern assumption states that when financial statements are prepared, the accountant assumes that the company will move without threat of dissolution or bankruptcy (Riahi-Belkaoui, 2005, p. 97). Therefore, it means that the likely taxable amount is already catered for in the financial statements hence in the event of taxation, the business does not feel any complication such as bankruptcy. The monetary unit assumption informs users to dominate the financial statement in numerical currency relevant to the business, as opposed to the units of the product (Riahi-Belkaoui, 2005, p.111). The assumption helps in easier calculation of tax in numerical terms thus enhancing continuous business operation without fraud. Samples of Accounting Theory Accounting theories related to taxation include; normative or perspective theories, descriptive or positive theories, decision usefulness theories, stakeholder theory, legitimacy theory among others (Pandikumar, 2007, p. 97). Normative theory prescribes how based on a given perspective of the role of accounting, inventories or assets should be valued for external reporting purposes such as taxation. Positive theories predict that executives paid bonuses on the basis such as profits will seek to use accounting methods that result in an increase in reported profits. Therefore, the theory helps in calculation of income tax of managers and the general business tax. Stakeholder theory predicts that the relative power of a given stakeholder group will determine if the group gains the accounting information it needs. The power refers to the group’s control over scarce resources. Therefore, stakeholder theory enables actual definition of the tax of the limited resources. Legitimacy theory predicts that companies seek to be perceived by the community as legitimate and they use accounting information as way of gaining and maintaining legitimacy (Pandikumar, 2007, p. 99). Practical Application of Legitimization Theory on Taxation (Corporate Social Responsibility and Tax Avoidable Practices) Legitimacy theory of financial accounting looks into detail the Corporate Social Responsibility and the Tax Avoidable Practices. It enables companies to conform to the demands of the community by being socially responsible. Global crisis has made international companies engaged in corporate social responsibility actions to manage their transactions through the lens of different tax avoidance practices. Corporate social responsibility paid less attention to the impact of tax avoidance practices of companies (Sikka, 2010, p. 157). Tax creates a significant impact with consecutive effects for the life of the public in countries where private entities are transacting. Despite companies’ ethical and responsible conduct in respect to the social behaviour, there are many instances when the business practices do not correspond with the declared corporate behavior. The notion of the legitimacy of the actions is a significant element in Corporate Social Responsibility (CSR). It is in relation to the point that a potential failure in disposing of valuable commodities of private sectors to the stakeholders may cause the existence of private entities. Therefore, company’s involved CSR actions should be more vigilant in all their business practices. Tax Avoidance Practices (TAP) is the business structures pursued by companies in order to gain more a convenient tax position (Mcgee, 2012, p. 217). Tax Avoidance Practices entail the fact that companies are moving their headquarters to more tax profitable locations, especially offshore (tax havens) (Sikka, 2010, p.155). Tax heavens offer secrecy to safeguard investors against scrutiny by outside authorities, therefore, preventing the efficient and effective exchange of details on taxpayers. In addition, many tax havens do not require substantial corporate practices within their borders for a company to gain from the preferential tax treatment. In many instances, companies based in tax havens claim that they engage in socially responsible business practices. Surprisingly they claim to be obeying both the legislation in the offshore and domestic locations. In view of organizational legitimacy, it depicts that companies based in the offshore engage in acts of legitimacy to be seen as socially responsible. There is hypocrisy of companies in respect to Corporate Social Responsibility (CSR). They are labelling their activities including taxes as responsible, transparent and with sound financial outcome for the shareholders (Sikka, 2010, p.156). In actual conditions, few companies make direct reference to payment of taxes in their social responsibility reports. Real business environment corporations have initiated two cultures that are, promising ethical conduct to external audiences and improving profits by avoiding and evading taxes. Companies are using transfer pricing, offshore tax havens, royalties, and planning structures to avoid taxes. Managers pursue tax avoidance to gain higher profits, status, remuneration, and media accolades (Mcgee, 2012, p.187). The implosion of hypocrisy results to fines and imprisonment of company managers and hostile media coverage, therefore, challenging claims of social responsibility. Today, CSR and TAP are in the global corporate actions of the companies. A company social responsible is very useful for the social environment, therefore, reducing tax burden may impact the image of the social behaviour. Taxes are significant corporate financial contribution with successive effect for the life of the public where private entities operate. Even though companies are hiding their profits into TAP, they consider having a well-known Corporate Social Responsibility approach through Legitimization theory (Sikka, 2010, p.153). They do not mention anything about their profit movements. It is recommendable that companies that operate through TAP should reconsider their activities from a social point of view. Legitimization theory has a significant social reality. It depicts how much income tax is paid. It creates a rapid write-off of inventory costs against revenues (assuming high stock prices) which actually means lower income taxes. In addition to income tax payments, accounting theory (numbers) is instrumental in evaluating the performance of management, which affects salaries, bonuses and whether person management members retain their jobs. Accounting theory entails income numbers and balance sheet ratios that affect dividend payments and the firm’s credit standing (Cost of Capital). Different income numbers influence the price of the company’s stock if the product is publicly traded. These factors in turn influence the income tax of an individual and the tax payable by company in general. Accounting theories entails accounting, which is an essential tool for commercial management. A significant dimension of commercial management is the financial implications, and one central aspect is the taxation implications of commercial decisions. Accounts may be modified for the purpose of taxation, however, it might have a bearing on the most proficient and profitable way to operate the business. Accounting entails the preparation of information for the purposes of decision-making and requires interpretation and recording of information (Reckers, 2006, p.237). The concept of accounting theory corresponds to the main purpose of taxation, which is to raise revenue, and as an instrument of government social and government policy. In order to operate tax successfully, it requires a degree of certainty from the commercial accounting. Accounting theory stipulates techniques of preparing accounts that are acceptable in terms of accounting standards, and taxation implications influence the choice. Legitimization theory specifies the verification of the calculation of variables such as expenditure, revenue, and profits for both commercial accounting and taxation. Financial reporting rules and practices at times are not appropriate for determining final tax liability. It includes the purposes of accounting and taxation, problems in evaluating economic concepts, and administrative effectiveness (Hughes, 2014, p. 241). The role of accounting is stated the provision to interested parties of information to control, decision making and stewardship. The concerned parties are often internal (management) and external (including creditors, shareholders, tax authorities). For effective tax analysis in the company, accounting theory enhances development of accounting standards through framework for the preparation and forwarding of financial statements. The framework supposes the primary purpose of financial statements is to provide information to respective users to improve their financial decision-making in taxation. Accounting theories display the primary goals of the income tax system and the goals of financial accounting. The main objective of income tax system is the equitable collection of revenue and the main responsibility of the Internal Revenue Service is to safeguard the public fisc (Hughes, 2014, p.231). However, the goal of financial accounting is to provide important information to the shareholders, managers, creditors. Financial accounting prevents misleading of the concerned parties. The theory outlines that the purpose of taxation is to finance public expenditure. Therefore, the extent and magnitude of taxation in modern economies make it a powerful tool of government economic and social policy. Tax measures may be introduced to improve economic decision-making and for various reasons. According to accounting theory, tax expenditures describes the situation the provisions of the several income tax containing exclusions, exemptions, deductions and tax benefits are methods of providing governmental financial assistance. However, even though such tax provisions exist for economic reasons, it does not mean that that they will coincide with the purposes of accounting because the government may take account of wider public economic interests. The disparity of accounting and taxation are fundamental than adjustments to an accepted figure for income. Application of Positive Accounting Theory on Taxation In addition to legitimization theory, Positive Accounting Theory influences the tax amount of a company. It entails assumptions and through logical deduction, it enables predictions to be made in the required way. Accuracy of prediction confirms the relevant tax a company should pay. For instance, a positive theory of prices may create a prediction that if some conditions are met, then highly growing prices will be observed. The rise in prices depicts an increase in tax of the commodity (Chartered Institute of Management Accountants, 2005, p.91). Positive accounting theory seeks to explain why managers decide to adopt a given accounting method in reference to others. It illustrates that accountants are motivated by self-interest and the given accounting method selected on certain considerations that influence taxation. The factors include; whether the person is endorsing the use of a given accounting method, for instance a manager, is rewarded in relation to accounting base bonus. The self-interest of the manager forces him to evade tax thus hindering compliance. The Positive Accounting Theory depends on whether the company is near to breaching the accounting-based debt covenants such as debt-to-debt constraint. It also depends on whether the company is subject to political scrutiny from different external groups such as employee groups and the government (Rutherford, 2000, p. 113). The scrutiny of the company’s profits impacts of the tax payable by the company. The managers mainly focus on avoiding the tax to gain main wealth in form of bonuses and profits. Therefore, Positive Accounting Theory is designed to explain and predict which firms will not or which firms will use a given accounting method. The selection of a given accounting method is aimed at company tax avoidance that is unethical and hinders Corporate Social Responsibility (CSR) (Mcgee, 2012, p.197). In summary, accounting theories, especially legitimization and positive accounting theory, influences the amount of tax payable by a particular company or business as evidenced above. Question B Financial statement analysis involves a process of reviewing and examining a company’s financial statements that form the basis of sound decision-makings. Companies’ financial statements include balance sheet, cash flow statements, statements of retained earnings and income statements. Each of the mentioned financial statement contains a component of taxation. Companies pay tax from their cash in-flows and, therefore, it is an expense to the firms. A sole common factor to ascertain how much a business entity submits income tax to the governments depends on the size of its profits. Logically, it will argue that a company that realizes a higher profit margin would pay more tax than those with smaller profit margins. However, some firms would pay higher taxes because of the nature of their businesses. (Alexander & Michael 1).Every business entity has an obligation of paying taxes to the government because taxation is the primary source of government revenue. However, some firms construct a malty-system artificial that creates an account of trust to avoid tax obligation (Weimar, 2003, p 82) schemes that this project aims at analyzing financial statements of Chevron Energy Company (US) and BP Company (UK) focusing on taxation. The Chevron Energy Company Chevron is multi-billion energy companies whose parent company is in US. Its approximate annual income revenue is $220, and yearly profit is $22 billion (Boyle, 1). Recently, the Australian court accuses Chevron of avoiding taxation amounting $258 million by shuffling loans to various branches and other bodies (Boyle 1). Chevron Company uses some unethical techniques to evade tax. It colludes with other international companies and its subsidiaries in other countries in scheming to escape remitting the tax. Chevron team, up with Texaco and the Indonesian régime, structured transactions to dodge billions of shillings in US income taxes (Gramlich & James, 2003. p 111) Chevron income tax analysis for the financial periods 12 months ended Dec 31, 2014 &Dec 31, 2013 Income tax expense Chevron income tax analysis for the financial periods 12 months ended Dec 31, 2014 &Dec 31, 2013 12 months ended Dec 31, 2014 Dec 31, 2013 U.S Federal 784 15 State and Local 336 120 International 9,235 12,296 Current 10,319 12,431 U.S Federal 1,330 1,128 State and Local 36 74 International 207 675 Deferred Tax 1,573 1877 Taxes on income 11,892 14,308 (Source: (BP, 2014, p. 115) Current income tax payments are the amount of tax payable or paid for the dated for all income tax requirements. It is determined by enforcing the provisions of appropriately ratified tax laws to related aggregates of taxable income (loss) from ongoing processes. The result shows the decline in figures from 2013, which reflected $ 72 to $95 in 2014(Boyle, 1). The general trend in the company’s profile in taxation structures shows a decline. (EITR) By 2014, the EITR of Chevron Company stood at 39.90% and 38.10% in 2013(Boyle, 1). The effective tax rate reduces from 2013 to 2014 showing that Chevron is significantly increasing continuing tax operations. Payment of taxes, as stipulated by the constitution, gives the company a better image on the sight of the customers. Stakeholders and shareholders would develop trust in the business, which abides by rules of law. A firm with a good reputation has a higher chance of hedging out its competitors in the market. Because of the need restore public trust in Chevron products. The management comes out boldly to defend the company against an allegation of sidestepping tax. Deferred tax assets and liabilities The component of deferred tax assets includes foreign tax credit, abandonment/environmental reserves, and tax loss carried forward, tax on inventories and other miscellaneous tax expenses. Statistics of 2013/2014 shows an increment of deferred tax on assets from 29,738 to 27,790b respectively (Boyle, 1). Deferred tax liabilities reduced from 2013 to 2014. BP Company BP is an international oil and gas company. It provides customers with fuel energy for propelling and lubrication of engines and provision of petrochemical products. The primary goal of BP is to deliver value on oil and gas. The company pursues strategies by setting urgencies, priorities and actively balance portfolio on quality and capabilities. Income tax analysis Income tax expenses for the financial period ended December 31, 2014 and December 31, 2013 quoted as 4,950,000 and 30,221,000 respectively (Gramlic, 2003, p. 34). Since amount tax payable by companies depends on the level of revenue earned, it is justifiable to conclude that profit index for BP decreased from 2013 to 2014. BP Ltd faces fluctuations in the global oil market, which in turn affects it annual general returns. The reduction if revenue earned reduces the amount of taxable income. For the period 2013/2014 financial year, BR reported a decline in sales, which drastically brought down its revenue level. Deferred tax liabilities and assets Deferred tax liability for 2014 and stood at $13.89 billion and $41.83 billion (Gramlic, 2003, p. 62) respectively. An increase in tax liability indicates an increase in current tax submission to the tax authorities according. The company is strategically maintaining its applicable tax rate to net taxable items of the financial statements. BP focuses on tax settlement within a financial period. Deferred tax assets level reduced from 2013 to 2014 economic cycles. Effective Income Tax Rate The analysis indicates that EITR of BP comes down from the year 2014 to 2014. The downward trends in EITR show that a company is committed to paying the taxes during the current trading period. Taxes payable affect the firm’s financial operations particularly if they grow huge. BP portrays a real picture by becoming tax compliance. EIRT rate average for the last five years stands at 29.3% for a company and 38.82 % (Gramlic, 2003, p. 62) for the entire section of the industry. Conclusion Energy sectors are the major contributors of the gross national product and form the largest component of export. Automotive fuel industries enjoy an atmosphere of business monopolies as most them are state controlled. There are laws that guide Taxation framework both international and nationally to discourage the abuse of revenue collection by the authorities. Nevertheless, some companies are keen on social antagonisms in determining and scheming on how to default, evade and abuse taxation process. The BP is one of the largest energy producers that follows rules and guidelines of tax compliance. It has the best public reputation across the world because of its fair deals with both government and the larger community of operation. Bibliography Alexander, E.M.H. and Michael, B. S. (January 8, 2014). Companies paying the most (and Least) Taxes-24/7 wall St. 247 Wallst. Web. May 21, 2015. Retrieved from http://247wallst.com/special-report/2014/01/08/companies-paying-the-most-taxes/ Bebbington, J., Gray, R., & Laughlin, R. (2001). Financial accounting: practice and principles. London, Thomson Learning. Boyce, P. (November 15, 2014). Chevron Multy-billion tax dodge: We don’t agree. Green Left Weekly. Web. May 21, 2015.Retrieved from Web. https://www.greenleft.org.au/node/57788 British Petroleum (BP). (2014). Annual Report and Form 20-F 2014. Web. 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(2010), ‘Smoke and mirrors: Corporate social responsibility and tax avoidance’, Accounting Forum, Vol. 34, pp. 153-168. Weimar, M. R. (2008). Identifying and Quantifying Rates of State Motor Fuel Tax Evasion (Vol. 623). Washington: Transportation Research Board. Print. Read More