By Ned Lenhart, MBA CPA
Over 45 percent of total state revenue comes from sales tax collections. This is second only to individual income tax collections. In states with no individual income tax, sales tax collections approach 60 percent of state revenue. Most of the sales tax collection occurs when merchants charge customers tax at the time of sale and remit the collected tax to the state. Many companies also self-accrue and remit use tax on purchases when the out-of-state vendor did not charge tax at the time of sale. However, some significant portion of the sales and use tax collected by states comes from sales and use tax audits when the audited company is found to have under- reported taxable sales or taxable purchases. Audits are conducted on both registered and unregistered companies. Each state has its own selection process for determining which businesses are audited and these selection processes are tightly kept secrets. Regardless of how a company may actually have been selected for audit, the official line given by tax authorities is that the company was ‘randomly’ selected!
Each of the 46 jurisdictions that administer a sales tax has some form of audit or enforcement arm. Audits are conducted on businesses that are headquartered in the taxing jurisdiction and on businesses that are headquartered in other states but do business in the taxing state. Over the years, many companies have been surprised to get audit notices from states other than where the company is headquartered. For example, a company headquartered and doing business in Georgia would not be surprised to get an audit letter from the Georgia Department of Revenue but they may not expect to get a letter from the Illinois Department of Revenue.
When it comes to auditing taxpayers (and non-taxpayers) that are located outside of the taxing state, tax administrators find it very cost effective to get as many auditors as possible to the area of the country where potential audit candidates are located. When it comes to auditing out-of-state companies, state audit agencies normally employ one or more of the following strategies: send auditors from the taxing state to the company’s out-of-state office: have auditors work from their home in a state other than the taxing state:, or, the state may have offices in other states where a team of auditors work to audit companies doing business in the taxing state but are located in the region where the field office is located.
You may be surprised to know that many states have fully staffed out-of-state tax audit field offices where sales tax and income tax auditors work. These auditors are charged with contacting businesses that are registered in the taxing state but that are located either in the state where the field office is located or in the region of the field office. Being closer to the taxpayers under audit (and the money collected), allows the states to have a very cost- efficient way to ensure compliance with the state’s taxes and to collect a significant amount of tax revenue. Further, these out-of-state offices are always looking for businesses that operate in the taxing state but that are not registered in the taxing state. This may be your business.
For example, the California State Board of Equalization has audit offices in Chicago, Houston, and New York City. The auditors assigned to these offices are responsible for auditing companies that are registered in California but are located in one of these states or in a state that is in the same region. These auditors are also looking for companies that are located in one of these states or in the region, but are not registered in California and maybe should be.
The state of Texas has audit offices in Chicago, Los Angeles, New York City, and Tulsa, Oklahoma. The Florida Department of Revenue has audit offices in Atlanta, Chicago, Dallas, Houston, Los Angeles, Woodland Park, New Jersey, and Pittsburgh, and the Missouri Department of Revenue has audit offices in Dallas, Chicago, and Jericho, New York. Other states may also have ‘out-of-state field offices’ but these locations are not always published.
As a retailer or wholesaler with nexus and customers in multiple states you must be constantly prepared for an audit by any of the states where you do business. As the saying goes, “failing to plan is planning to fail” and this certainly applies to sales tax audits. No one likes an audit. They are intrusive, frustrating, time consuming, and possibly very expensive. If part of your strategy is to assume that it is only cost effective for your ‘home state’ to audit you, please think again. If you are a New York- based company with nexus and sales in California, you should not be too confident that it is too expensive for the state of California to come to New York to audit your business. In fact, they may only need to drive a few hours from their New York field office to conduct the audit. Further, many parts of the audits are being conducted remotely so that documents are scanned to the auditor in advance of their arrival to the company location so that the work done on site is more efficient.
The amount of sales tax audit findings is not published, but the amount is significant and the states count on some significant portion of sales tax and income tax revenue to be generated through audits. While auditors are not directly compensated based on their audit findings and collections, auditors who are efficient in their work and have a good history of identifying qualified audit leads and collecting legally revenue due to the state are certainly promoted and rewarded for their work. Over the past 20 years, the ability to hide from sales tax auditors has become quite challenging. To complicate matters, many states are part of formal and legal ‘information sharing’ agreements which allow information about taxpayers to be shared with other states.
About Ampersand Accounting, LLC
We are the premier brand provider of middle market ecommerce retailers’ sales tax compliance and consulting services. The Ampersand management team has unique and complementary skills and over 100 years of combined experience in tax and the ecommerce industry. We provide our clients with a low-cost, non-invasive solution to their present and growing needs for sales tax compliance and consulting.
Ampersand means the word “and” as well as the symbol “&”. It reflects our inclusive culture and our approach to client service. Our core purpose is to add value to our customers’ businesses by removing the compliance burdens that take them away from what they do best.