Tax tech

These days private equity CFOs are often heard complaining that they haven't had a day off in months. Tax preparation season is upon us, and as many firms are complying with the valuation and disclosure requirements of FAS 157 for the first time, it looks likely that investors will be getting their K-1s a bit later than usual this year.

There's little hope of avoiding an onerous valuation process this year, but finance teams can use technology to streamline the process of tax preparation. While private equity software packages don't necessarily come with tax-calculation capabilities, there are a number of ways in which these packages can help both GPs and LPs.

For Relevant Equity Systems' private equity clients, the audit process looks like this: its Relevant EquityWorks back office software has various modules for fund administration, portfolio management and quarterly reporting, along with links to commercial-grade general ledgers (e.g., QuickBooks, Peachtree, etc.).

Come tax time, auditors are given a Portfolio Activity Report which itemises each fund's investments at the beginning of the year, activity during the year (e.g., investments, conversions, sells/write-downs) and the ending inventory of holdings).

“You're giving them a starting point, all the activity, and then an endpoint,” says Ray Haarstick, Relevant's founder. “It's kind of like giving them a roadmap.”

Finance teams can also provide auditors with export files containing fund accounts, LP capital accounts, and fund/portfolio transactions. Once the auditors complete their job, the finance team will typically make adjustments (e.g., valuations) in Relevant EquityWorks and export data for tax preparers. At this point, K1s and 1065s can be generated by the system or by the tax preparer's software.

Most auditors these days just use TurboTax or an equivalent software package to generate these forms, Haarstick says. But some of the smaller funds will generate their own forms, and many of Relevant's clients generate their own forms as a means of double checking what they get from the auditors.

The system is also structured to make it easy to import and export data to third-party systems, another feature that makes a private equity firm's interactions with auditors easier. EquityWorks has a cash flow exporter, and it has tight integration with Excel, Haarstick says.

Vantage Software's Vantage Investor product maintains the partnership accounting records for private equity firms, keeping track of capital accounts, cash flows, investor activities, and maintains the investors' account balances and pro rata share of the portfolio. Transactions are maintained on both a book value and tax basis, and the system provides reports that are the basis for investor reports and K-1s. The relevant data can be pushed out to third party modules that handle the tax calculations. The data is then fed back into Vantage's software to produce the data for K-1s and other tax forms.

Vantage's four software solutions (Vantage Deal Manager, Vantage Investor, Vantage Performance and Vantage Funds-of-Funds) are specifically designed to integrate well with a wide variety of third party software, so usually there aren't any hitches, says Greg Woolf, Vantage's founder and CEO. He cautions that the process of configuring the import and export tools can get technical though, and is best left to Vantage.

“The ability to export data in a format that is readily available for a tax preparation group expedites delivery of returns to the partners,” Woolf says. “Remember: many of these firms are producing hundreds, even thousands of K-1s. So any method that streamlines the process and increases efficiency under deadline is greatly appreciated.”

For those firms that use a fund administrator, it's very important to get the right information from them in the correct format as expediently as possible around tax season, he says.

“When using a third-party service provider, like an administrator or an accounting firm, it's important to make sure the provider has very clear data formatting instructions. The client in turn can pass on to us a clear definition of the data structures as well as how often that data will be coming over,” Woolf says. “Where we run into problems is when we get missing or erroneous data from a service provider. We don't want to find that out when tax returns are due. We want to do that homework up front.”

All of Vantage's clients follow many of the same steps when it comes to tax preparation, but different firms have different methodologies in the way they go about producing the final product. Larger firms tend to have tax expertise in-house, while smaller firms outsource various stages of tax preparation.

“We have many clients that have offshore investors and may be doing tax calculations and reporting through alternative investment vehicles, blocking companies or offshore tax structures,” Woolf adds.

“Private equity is challenging in that firms have very different strategies, investor bases, and perspectives,” he says. “Particularly from an investor servicing and reporting standpoint, customers in this space turn to our modular products because they're highly configurable and can be tweaked to meet each client's specific reporting needs.”