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Financial consolidation is the process of representing the income and expenses of a related group of businesses in a single set of financial statements or on a single tax return. A business is related to another business if it owns or is wholly or partially owned by that business. This type of arrangement is referred to as a parent-subsidiary relationship. Consolidation allows multiple related subsidiaries to be treated as one business under the umbrella of a parent holding company.
Most business entity types, such as a corporation, are independent entities under the law. This means the business has most of the same rights and responsibilities as any individual citizen. It operates under its own name, can enter into contracts, sue or be sued, own property, and must pay taxes as if it were a person. Businesses can also own other businesses, and often do so to supplement operations as a method of expansion or diversification, investment, as means to spin off discrete areas of current operations into independently functioning companies.
Every business must also maintain a bookkeeping record of income and expenses that feeds its accounting system so it can pay taxes and meet financial reporting requirements. In certain countries, such as the US, France, Australia, and New Zealand, businesses that are a part of a parent-subsidiary group do not have to publish separate financial statements. Through financial consolidation, the parent company can publish one set of statements that reflects the accounting for all businesses in the group.
Financial consolidation treats the multiple businesses in a related group of parent-subsidiary companies as one entity. Statements are published under the name of the parent company, while the financial impact of the subsidiaries are reflected as if the companies were divisions of the parent. The rationale behind this presentation is to make it more efficient for related businesses to meet reporting requirements and to present a better picture to investors of how the entire business group interrelates.
In the US, financial consolidation is specifically authorized by the national tax code. It allows a group of related companies to file one consolidated tax return under the auspices of the parent. The parent is responsible for meeting all the tax obligations of the subsidiaries, centralizing the federal tax compliance function for the entire group in one entity. A parent is not required to consolidate the financials of its subsidiaries, but there is a certain amount of favorable tax treatment a consolidated group can enjoy that is not available to entities filing separately.