Chapter Objectives Be able to: n Explain why income taxes are important to the business decision process. n Explain why income tax laws are not as complex as they are perceived to be. n Outline the four fundamental tax variables to be considered in the business decision process. n Explain why management’s role in the tax process is to apply known tax law. n Explain the five areas which would contribute to an efficient management approach to taxation.

The Role of Taxation in the Decision Process n Management decisions in all areas of responsibility have the common goal of maximizing long-term wealth by cash flow enhancement. n This decision making involves identifying and analyzing alternative courses of action, including after-tax cash flows. n Since the amount and timing of income tax can vary significantly between alternatives, the impact of taxes should always be considered in the decision-making process of all managers.

The Complexity Issue - Mountain or Molehill? n Even though the Income Tax Act is written and presented in a complex manner, its fundamental structure and concepts are not complex. n In fact, only about one-third of the Act regularly affects business decisions and this one-third has a logical flow and a close-knit structure that includes a limited number of variables. n The major variables include the following: Entities subject to taxation Types of income Alternative forms of business structure Tax jurisdictions n Knowing the general concepts of these variables and how these variables interact will enable managers to recognize which items affect normal business decisions.

Management’s Role and Approach to Taxation n Management’s role is to be aware of and apply known tax law, as opposed to interpreting tax law which is the function of independent advisors. n All factors that affect profit and cash flows are relevant to a business decision. Income tax would be one of these relevant factors and should be addressed in the same manner as other relevant factors. n Including tax implications is not synonymous with tax avoidance. It is simply the inclusion of a relevant cost and, in fact, the lowest tax alternative may not be the alternative chosen. n The management process will be enhanced when the decision maker is aware of the amount and timing of the related tax consequences.

Development of a Management Approach Income tax is a relevant cost: n Income tax must be treated as a controllable expense. n Cash flows must be treated on an after-tax basis. Management has responsibilities: n The tax effects of decisions must be allocated directly to the functional manager involved. n There must be a means for bridging the gap between interpreting the Act and applying the Act to business problems. An independent advisor should be utilized: n An independent advisor should be engaged to assist with applying taxation in the decision structure.