Compliance in a shifting regulatory environment requires nimble responses. 

Author: Susan Kelly

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Companies around the world have slogged through a blizzard of new regulations in recent years, ranging from the US’s Dodd-Frank to the EU’s European Market Infrastructure Regulation (EMIR) and the Market in Financial Instruments Directive. The push for more regulations remains alive, and companies see valuable cash management tools under attack as unintended consequences of new rules proposed and discussed in the US and Europe.

Deas, NACT: Preparing for Section 385 rules is taking up most of treasurers’ time these days.

Regulations such as the proposed changes to Section 385 of the US Internal Revenue Code, new guidelines from the European Banking Authority and uncertainties over the accounting treatment of supply chain financing are posing question marks on cash pooling and intercompany loans.

The US Treasury is attempting to limit inversions, in which a US company acquires an overseas company and then relocates its headquarters overseas for tax purposes, as well as earnings stripping, in which companies shift earnings to jurisdictions with lower tax rates. However, its proposal may limit the practice of moving cash in international groups with different branches in different countries.

The Treasury’s proposed changes to Section 385 and the tests it has set up to ferret out the actions it is trying to discourage are broad enough to interfere with the cash-pooling among a company’s units and loans between units, both techniques widely used by large corporations.

The Section 385 changes let the government reclassify earnings-stripping transactions as equity rather than debt, but the changes could affect other transactions between company units. The changes also require that such transactions be documented; if a transaction lacks documentation, it could be reclassified as equity and the company would lose the interest deduction it gets on debt.

The proposed rules would affect not only US companies, but also US subsidiaries of companies headquartered in other countries.

Tom Deas, chairman of the National Association of Corporate Treasurers and past chairman of the International Group of Treasury Associations, says treasurers now spend more time preparing for Section 385 rule changes than anything else.

“Most multinationals have these cash-pooling arrangements,” he says, and adds that the proposed rule’s three-year lookback period raises the specter that recent prior transactions could pose a problem. “You have to assess what could be caught up here,” Deas says. Treasurers are also studying how to conduct business if the proposed changes take effect.

Camerinelli, Aite Group: Without a clear standard, treasury departments had better consult with auditors.

Stephen Baseby, associate policy and technical director at the Association of Corporate Treasurers in London, notes that European treasurers are waiting for guidelines from the European Banking Authority that could also have a dampening effect on companies’ use of cash pooling.

The guidelines, part of the Capital Requirements Directive IV (CRD IV) that implements Basel III in the European Union, deal with banks and the stability of their short-term deposits. Regulators see companies’ cash pools as less sticky, which means they would have to be 100% collateralized with government bonds, Baseby says, as opposed to the collateralization of 40% for funds seen as having more staying power. Deposits that aren’t classified as sticky, like cash pools, are “virtually worthless for the banks,” he says.

“The impact is similar to the 385 rule in that pooling of funds across groups will become less attractive,” Baseby says. “They will effectively discourage the commingling of money the way the 385 rule does, but they will do it in a different manner.”

Supply Chain Finance

As supply-chain finance programs become increasingly popular, there’s concern about the accounting treatment for programs in which a company arranges with its bank to provide financing to its suppliers as they wait for the company to pay them, a solution sometimes known as reverse factoring.

The issue is whether companies should account for the outstanding bills being financed under such programs as payables or debt, Bas Rebel, senior director of corporate treasury solutions at PwC in the Netherlands, wrote in an email.

Companies offer vendor financing to their suppliers to extend the amount of time the companies can wait before paying the suppliers. Rebel said that if the company ends up with payment terms that are far longer than is common in its market, a company’s accountants may agree the outstanding bills are payables, but rating agencies might argue for treating them as debt, “based on the argument that under normal trade conditions suppliers would not agree to such nonstandard payable terms, and hence this is a loan given by the supplier.”

“This is indeed a global issue,” says Enrico Camerinelli, a senior analyst at consultancy Aite Group. “It’s something that depends very much on domestic or national accounting treatment, as well as some accounting aspects that have not yet found  a global alignment and standardization.” He notes that International Financial Report Standards (IFRS) don’t specifically address supply chain finance programs.

Companies that are planning a supply-chain finance program should review their plan with auditors so that they can take auditors’ views into account, Camerinelli adds. “But it’s very much a case-by-case situation. There is no general standard to which one can apply.”

Base Erosion Project

Rebel, PwC: The accounting treatment of supply-chain finance balances isn’t standardized.

The Organisation for Economic Co-operation and Development’s Base Erosion and Profit Shifting project, which, along with the proposed Section 385 rules, aims to deter corporations from shifting revenue to low-tax jurisdictions, is another effort that could affect corporate finance and treasury, according to Mark van Ommen, a director at Zanders Treasury & Finance Solutions, a Netherlands-based consulting company.

“For corporate treasuries the main impact that we see is on the areas of interest deductions, intercompany transfer pricing and transfer pricing documentation,” van Ommen wrote in an email. “More practically, this means there is a potential impact on intercompany financing, in-house banking structures, payments-on-behalf-of structures and other areas.”

Companies are also preparing for a couple of new IFRS accounting standards. The IFRS 9 hedge accounting standard that will take effect in 2018 should make the administration of hedge accounting easier for companies, van Ommen explains, while the IFRS 16 lease standard, which takes effect in 2019, will move lease assets and liabilities onto the balance sheet. For companies with a lot of leases, the change could affect key finance metrics, he says: “The treasurer or corporate finance executive should be aware of this impact on the balance sheet and specifically on key ratios and financial debt covenants.”


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