Spreadsheets are the most common end-user computing (“EUC”) tool in taxation. Since the introduction of VisiCalc in 1979, electronic spreadsheets experienced several market evolutions culminating in Microsoft Excel becoming most popular EUC tool in use today. The increase in spreadsheet usage in taxation is primarily due to the highly technical nature of tax calculations in addition to the difficulty of communicating and documenting tax subject matter expertise needed to build enterprise-level software. Being able to easily configure complex tax calculations using spreadsheets has allowed tax accountants to configure specific calculations when-needed to facilitate their day-to-day computational needs.
“Pervasive usage of spreadsheets in calculating various tax items leads to qualitative and quantitative technical debts that may not be visible to management”
Unfortunately, the use of spreadsheets across a large spectrum of taxation is leading to a negative effect similar to “technical debt”, which is common in software development. The term “technical debt” refers to the higher final costs that are incurred when shortcuts are taken during initial software development. The large scale fragmented use of spreadsheets in tax calculations, which seems appealing in the short term, often results in higher final costs, analogous to “technical debt”. Spreadsheet use significantly increases institutional risks to levels that are unacceptable to management and shareholders. In some industries, there are specific regulatory frameworks in place that govern and control EUC to mitigate risks. However, full compliance with EUC governance and maintaining control across all spreadsheets used by corporations may not be feasible as the cost is too high.
This article examines the reasons behind the expansion of spreadsheets’ usage in taxation, the relationship between the increased use of spreadsheets and growth of technical debt, and offers potential solutions to mitigate a company’s institutional risks.
Reasons for Ubiquitous Use of Spreadsheets in Taxation
1. Complexity of Tax Rules
Most software development follows a general development process pattern—defining business requirements, documenting requirements, analyzing use cases, implementing the software, and testing. In particular, defining business requirements requires significant involvement of subject matter experts. In the case of tax software development, it is very difficult to produce business requirement documentation for several reasons: tax rules change constantly; applications of tax rules vary across jurisdictions; tax rules have many conditions that are based on somewhat arbitrary rules that are difficult to understand; and there are many exceptions to what are already complex conditional rules. This set of complexities, coupled with how easy it is to use spreadsheets for specific computational needs, led to the expanded use of spreadsheets as the leading EUC tool for taxation.
2. Lack of Adequate Budget Allocation
While companies allocate a significant part of their budget toward the development and implementation of enterprise-level financial reporting software, as a part of either Enterprise Resource Planning (ERP) or financial reporting modules that derive data from ERP, a corresponding budget is not typically allocated for structured implementation of enterprise-level tax reporting software solutions. In part, this is due to the poor quality of corporate tax software, which previously could not provide enterprise-level solutions. Corporate tax software was typically form-generation software, which did not produce any business intelligence to facilitate financial decision making. Since enterprise-level tax software has become available now, companies may begin allocating an adequate budget so their tax software can provide enterprise-level solutions as a part of their global tax management.
3. Ease-of-Use Spreadsheets and Market Perception
Since the introduction of VisiCalc, accountants have adopted the use of spreadsheets in almost every aspect of their professional work. As a result, accountants have gained sufficient expertise to configure specific calculations using spreadsheets. Moreover, service providers with a strong market influence have been heavily marketing tax calculation templates developed using spreadsheets as production level solutions. Consequently, the corporate market has accepted, de facto, spreadsheets as an acceptable solution to tax computations.
Enterprise-Level Risks and Technical Debts from Using Spreadsheets
1. Spreadsheets are Personal
Although the nominal cost of developing spreadsheet calculations seems low, the real cost of using spreadsheets is very high from the more comprehensive view of the company’s overall costs and risks. Primarily, since any spreadsheet is tied to an individual’s knowledge and personal experience, even the same calculations can be configured very differently among different users. Additionally, spreadsheets created by one person can be very difficult to understand by other users since there is generally no standard convention by which all contributors to the same spreadsheet contribute their content. Understanding spreadsheets created by another person takes a significant amount of time. Hence, the custom-built nature of spreadsheets often results in an overlooked organizational inefficiency.
2. Lack of Controls
Because most spreadsheets can be changed easily, they lack enterprise-level controls. The lack of controls governing changes to a spreadsheet may compromise computational integrity. Though a spreadsheet may have been thoroughly reviewed and certified for accuracy at one point in time, that spreadsheet may have been edited by a user after it was reviewed. Such edits may not have been recorded nor documented, and, therefore, that spreadsheet cannot be relied upon as a production-level calculation engine. Recognition of this flaw led to specific governance and control standards, especially in regulated industries such as banking and insurance. Strict compliance to the governance and control standards for all company spreadsheets is not financially feasible for many companies.
3. Technical Debts
Pervasive usage of spreadsheets in calculating various tax items leads to qualitative and quantitative technical debts that may not be visible to management. For instance, Tax Technologies, Inc. (TTI) had one project that required an analysis of all related spreadsheets used in the year-end provision processes. This process had over 150 connected spreadsheets, containing over 5 million formulas (of which 85,000 were broken), and over 2,700 links across files (of which 1,800 were invalid). We spent over 5,000 hours in resource time to sort out the formula and link issues even before getting to the substantive issue of reviewing the tax calculation contents. We can safely say that no company has defined this inefficiency as a significant quantifiable cost, although companies generally acknowledge that the use of spreadsheets for critical calculations is risky.
EUC Governance and Control Standards
The realization of the risks of using EUC as a production-level solution has led to a number of EUC governance and control standards. The governance standards generally require regular periodic testing that may include comparison testing between two different versions; documenting the content; establishing a change management process; maintaining the history of changes through version control; maintaining a golden copy in a repository; separating duties across different participants of EUC; and de-coupling the ownership. Most companies do not even have a complete spreadsheet inventory. Thus, for many companies, following the governance and control standards are not feasible. At the same time, uncontrolled use of spreadsheets is not acceptable due to significant institutional risks. As such, the cost considerations and risk factors compel the industry to develop creative solutions.
There are a number of commercial software tools to help companies mitigate certain aspects of the risks discussed, but no comprehensive solution is available. For instance, there are tools that can compare one spreadsheet version to another and produce accurate diagnostics. Some other document management solutions provide versioning controls and change management. However, none of these solutions fulfill the original goal of integrating spreadsheets developed for specific purposes into the overall tax computation process. For example, earnings stripping computations may produce a tax adjustment, and that adjustment should become an integral part of overall tax provision computations. Simply keeping the earnings stripping calculation file in a document repository does not resolve the issue of making the same calculation an active part of the overall tax computations.
The proper solution is a hybrid approach that includes spreadsheets as part of the overall production-level tax software calculations. There are three categories of spreadsheets: one that produces data for overall tax computations such as earnings stripping computations and transfer pricing adjustments; an analysis spreadsheet that consumes data from overall tax computations calculated in production-level tax software; and lastly, a spreadsheet that provides supporting documentation for the other two types of spreadsheets. Under the hybrid approach, all three categories of spreadsheets would be embedded as part of overall production-level tax software calculations. This method also allows the spreadsheets to inherit the controls that are already in place for the host software and provides a reasonable solution to the issue EUC governance and control standards.