Should directors be acting to the letter or the spirit of the law? “I was just following the rules” is an old and popular defence, and one employed not very successfully by MPs during the expenses scandal in 2009. The same trick is used as part of the debate on executive pay. Criticisms of rewards for failure are brushed away with claims that the latest eye-watering payout to a departing CEO is merely in line with the terms of employment in a contract. The letter of the law has the power to make an ass of common sense.
This subject cropped up earlier this week at the London Business School’s Global Leadership Summit 2013. Titled Beyond Heroes, Villains and Scapegoats: The Future of Leadership, delegates heard plenty of discussion of the need to apply greater discretion in their behaviours and decisions.
One concept in particular stood out: the importance of good judgement. Martin Wheatley, CEO of the new banking regulator the Financial Conduct Authority, spoke about the UK’s revised approach to financial regulation. He pointed out that the new regime represents a marked shift away from the era of light-touch regulation and claimed we have entered an era when regulation (especially for financial services) will be more intrusive. Crucially, he also pointed out that the new system inherently involves the exercise of judgement (both from regulators and those regulated) rather than compliance with rules.
The letter of the law has the power to make an ass of common sense
Meanwhile Dr Josef Ackerman, chairman of Zurich Insurance Group and vice-chairman of the Foundation Board of the World Economic Forum, went further claiming that while the financial crisis was caused in large part by poor decision-making and errors of judgement by the banks, the situation was compounded rather than eased by errors of judgement on the part of the authorities trying to patch things up. When governments, in particular in the US and UK, absorbed failed banks into successful banks or bailed out failing banks they kept alive organisations that shouldn’t have been kept alive.
“We should have used the crash to reconfigure the banking system. Failed banks have to be allowed to exit the market,” he said.
This failure to allow the market to correct is partly what has caused the long recession, as banks with badly mangled balance sheets are told to hold on to more capital to prevent a similar crisis in the future. And the recession led to austerity, which in turn has placed the spotlight more than ever on the role of tax. Which gets us back again to the question of judgement.
Also at the LBS Summit, Tim Breedon, recently appointed to the board of Barclays as a non-executive director, offered insights into the importance of judgement in good leadership and culture. The new team at Barclays is clearly determined to build a better corporate culture in which the exercise of good judgement matters and is seen to matter. Breedon explained that this means both doing the right things and doing things right.
But the issue of the role of corporate tax in general and corporation tax in particular has stayed at the top of the political and news agenda and shows few signs of disappearing soon. Sadly, the rise in public and political interest in tax has not been accompanied by a rise in understanding of what are often highly complex affairs. But what is clear is that rather than complying with a set of rules (and sometimes pushing those rules to their limit), tax is increasingly becoming a matter of judgement.
The stakes for tax professionals and finance directors have never been higher
In some ways it always has been. The extent to which companies and individuals employ techniques to reduce the tax they pay is nothing more than judgement.
But this judgement becomes more critical as the reputational risks of not being seen to contribute a decent or fair amount of tax grow. For a while in the heady days of the boom years, when employees seemed to be scarcer than jobs, organisations boasted of becoming the “employer of choice” in a sector. Picky would-be employees searched out a future employer who suited their values and beliefs. Today that includes their tax contributions (perceived or actual).
The same is true of customers. Even in austere times, shoppers today align themselves to brands whose values they share more than ever.
All of which means companies that develop a reputation (deserved or otherwise) for not contributing “a fair share” (and anyone able to pin that concept down accurately is doing well) may struggle to find employees or keep customers. Needless to say in the age of social media acquiring a bad reputation can happen quickly and without much justification.
Thus the stakes for tax professionals and finance directors have never been higher. That alone should be enough to change the rules of the tax game forever. And as uncomfortable as it may be for some tax experts, it will no longer be a question of simply following the rules, but rather one of making the right judgements.
Richard Cree is editor of economia