Paying corporate taxes is a complicated process– you won't know your actual taxable income and tax rate until the year closes. Still, you can't wait until first quarter to come up with your tax payments. And the longer it takes to calculate the correct tax amount, the more likely you will have late penalties and interest on your tax payments.

Tax provisioning is a strategic method to estimate a conservative tax amount with a small buffer. As a result, companies that use tax provisioning can save towards meaningful number all year without putting unnecessary strain on cash flow.

We'll cover three sections in this ebook to help your company create an efficient tax provisioning strategy:

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Section One: Common Obstacles of Tax Provision

Section Two: How to Calculate Corporate Tax Provisions

Section Three: Tools to Streamline Tax Provisioning

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Section One: Common Obstacles of Tax Provisioning

When paying taxes, companies' most significant problem is trying to guess a moving number accurately. You won't know for sure what your taxable income will be until the books close for the year, and without knowing your taxable income, you can't know your tax rate. 

This uncertainty contributes to many obstacles in proper tax provisioning as well. But many companies create further challenges for themselves with improper systems and standards.

Bridging the Gap Between GAAP and IRS Requirements

Most corporations use Generally Accepted Accounting Principles (GAAP) for their accounting and bookkeeping. However, the IRS uses different methods to calculate taxable income. That means that the financial department needs to prepare documentation that notates company books using GAAP and the IRS tax criteria.

There are two main variation categories between GAAP and the IRS:

• Temporary Differences
• Permanent Differences

Temporary differences include items that both the IRS and GAAP recognize, but they account for them at different times. These differences typically come from earning more than you will report on your taxes, creating a deferred income tax liability to be paid the following year.

Permanent differences are transactions that are deductible from net income according to the GAAP but not the IRS. These transactions need to be added back into your tax records. A common example is if you received advance payment for a product or service, but you use accrual methodology. 

Although your company books won't recognize the income until the order is fulfilled, the IRS expects to be paid on income received by the end of the year.

Changes in GAAP and IRS Requirements Year After Year

While balancing temporary and permanent differences often reflected in current vs. deferred income tax liability, the problem isn't tracking how much you deferred for the following year's taxes. The more significant problem is that the GAAP continues evolving, creating a moving target. 

In fact, some changes can reverse in consecutive years. So certain expenses may qualify for deferred income tax one year, but the year you pay the tax amount, that expense could no longer qualify.

This loop requires every corporate finance department to invest intentionally in continued education and training. Filing taxes is challenging for many simply because it's a complex procedure you only do once a year. As a result, corporate taxes easily drag on past deadlines without proper training and careful eye-tracking changes, resulting in higher payments and fees.

Failure to Prepare for Taxes All Year

While the differences between the IRS and GAAP are outside corporate control, many companies need to take charge of the policies and procedures they can control. Well-structured, intentional systems can save companies time, stress, and worry. 

Common areas any company can tighten include:

• Organizing documentation– including receipts– carefully throughout the year.
• Clear checklists for month- and year-end book closings.
• Outdated or insufficient financial software.
• Multiple sources of data, creating confusion and multiple versions of financial records.
• Overly-siloed departments, causing unnecessary communication barriers.

Section Two: How to Calculate Business Tax Provisions

Calculating tax provisions is simple in theory– but quickly gets complicated. However, at a high level, tax provisions follow a simple formula:

Estimated Net Income x Estimated Tax Rate + Small Buffer= Tax Provision Amount

However, as we mentioned in Section One, companies typically estimate their net income based on GAAP guidelines which will not create an accurate tax estimate due to the IRS. Therefore, finance departments must clearly grasp current year income expense versus deferred income expense to create an accurate tax provision.

Current Year Income Tax Expense

Your company's current year income tax expense is the amount that the company owes to the IRS right now. To properly adjust your GAAP accrual methodology, follow these steps:

1. Estimate Net Income for the Financial Year

This is the number your books produce according to GAAP methodology.

2. Adjust for Permanent Differences‍

Permanent differences include any transactions that GAAP recognizes as deductible, but the IRS does not.

3. Adjust for Temporary Differences

Temporary differences can be difficult to track since they include transactions recognized by either the IRS or the GAAP, but not at the same time. A typical example includes incurred expenses that have yet to be paid or collected income for products or services that have not been fulfilled.

4. Subtract Tax Credits and Net Operating Losses

Any tax credits or net operating losses (NOL) can be recognized at this stage.

5. Multiply by the Estimated Tax Rate

Unfortunately, it is only possible to definitively know your tax rate once you know precisely how much your net income will be. You can use your latest tax rate or work off income projections to determine a likely rate.

You should have an accurate current year income tax estimate at this stage.

Deferred Income Tax Expense

Deferred income tax expenses account for any tax-related transactions that incur a cost, but that will not be paid in the current year's tax filing. This total will be recorded as a tax liability on your GAAP balance sheet because the amount needs to be paid the following year.

Deferred income tax expenses are often a result of the difference between when you recognize income on your books and income tax regulations.

Add a Buffer to Your Current Income Tax Expense Estimate

After calculating the current income tax expense estimate following the steps listed above, most companies add a small buffer amount to the total. A buffer allows you to proactively prepare for differences in your estimate and actual income expense due without overly straining your operating cash flow.

Your buffer amount will depend on your industry, revenue class, and other factors. So it's always a good idea to consult a third-party accountant to get an accurate estimate and buffer amount.

Section Three: Tools to Streamline Tax Provisioning

One of the best investments to smooth tax provisioning is the tools and systems you put in place long before tax season. Section three will cover a few of our top recommendations to make this year's tax prep the best it's ever been.

Proper Financial Stack and Automation

With so many financial software and apps available today, it's unfortunate that many companies are not taking advantage of a strategic financial stack. A great financial stack includes a range of products that integrate smoothly into a single source of truth. In addition, the software selection will automate everyday tasks, reducing time, errors, and stress.

We recommend your financial stack include solutions for:

• Accounting
• Expense management
• Invoicing/Accounts Receivable
• Payment processing/Accounts Payable
• Payroll and benefits management
• Forecasting and modeling

Clear Documentation Systems

Prepping tax documentation is often incredibly time-consuming simply because it takes a monumental effort to track down the required paper trail. Companies can significantly streamline their tax provisioning and actual tax preparation by creating and enforcing a clear documentation system.

The easier it is to follow a documentation system, the more likely employees will comply. So if you have many employees authorized to purchase supplies, make tracking receipts and coding expenditures easy. Your financial stack can significantly assist in consistent, accurate documentation year-round.

Break Down Data Siloes Where Appropriate

Modern business practices have revealed that data siloes are often too restrictive. What was intended to keep data safe often creates lost income or higher expenses due to mistakes from missing information.

Work with department heads and company leadership to examine how data is stored and if current systems restrict necessary communication. Again, a strategic tech stack is a great way to balance data security and free-flowing information.

Smooth Tax Provisioning Leverages a Great Tech Stack

Corporate taxes include complicated regulations, deferred recognition, and changing rules. And while nothing replaces highly-qualified talent in your financial department, a great tech stack goes a long way to provide smooth and accurate tax provisioning.

Are you ready to streamline your corporate tax provision process and save time and money on tax payments? Request a demo of our software which apart from provisioning performs many other tasks like collecting data from multiple sources, different currencies, and various dimensions. Try it today and see how it can benefit your company. Contact us now to schedule a demo!

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