Sales and Use Tax Audits - Lorman Education Services · Sales and Use Tax Audits Presented By: This...

Sales and Use Tax Audits

Presented By:

This manual was created for online viewing. State specific information in this manual is used for illustration and is an example only.

mail: P.O. Box 509 Eau Claire, WI 54702-0509 • telephone: 866-352-9539 • fax: 715-833-3953email: [email protected] • website: www.lorman.com • seminar id: 400363

Judy D. Harris, E.A. and Martin Joseph, CMICrowe Horwath LLP

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mail: P.O. Box 509 Eau Claire, WI 54702-0509 • telephone: 866-352-9539 • fax: 715-833-3953email: [email protected] • website: www.lorman.com • seminar id: 400363

Prepared By:Judy D. Harris, E.A. and Martin Joseph, CMI

Crowe Horwath LLP

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Managing Sales and Use Tax AuditsLorman Education Services

1


Audit | Tax | Advisory | Risk | Performance © 2015 Crowe Horwath LLP 2

IntroductionsMartin A. Joseph, CMI

Managing Director

Direct (630) 575-4348

Mobile (815) 382-0458

[email protected]

Judy Harris, E.A.

Manager

Direct (630) 586-5177

Mobile (312) 342-8534

[email protected]



Agenda

State’s Process for Selecting Sales and Use Tax Audits

How to Prepare for a Sales and Use Tax Audit

Initial Audit Meeting

Sampling Techniques

Finalizing the Audit

Appeals and Negotiations

Audit Tips

3




Routine Audits for Large Taxpayers Generally Taxpayers that remit large sales tax dollars are routinely audited Small error can develop into large audit results

Retailers are popular targets due to large sales tax collections

Manufacturers that have high use tax amounts remitted to the state

Companies with Direct Pay Authority

Discovery from Audit Exceptions from Other Audits Popular where an exemption certificate is not allowed

Watch for duplicate collection of use tax assessed on audits where sales tax was also assessed by the Department of Revenue

Claims for Refund Common for states to audit companies after a claim for refund is filed Audit of the Claim for Refund

Audit of company sales and purchases to offset the claim for refund

If a state is commencing an audit, it is a good time to file a claim for refund




Industry Specific Very common

Gas Station Audits

Auto Dealer Audits

Banks with software purchases

Location Based Audits Popular with states that will send auditors to an area for several weeks

States that have no office or auditors in the area

3rd Party Audits Common for city audits

Examples include Louisiana parishes and cities and Colorado Cities

Multistate Tax Commission Audits MTC will perform an audit for a number of states at one time

Generally smaller states

Random

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Prepare for a Sales and Use Tax Audit

Notification of Audit States or cities may call to introduce themselves and inform you of an audit that was

assigned to the auditor on your company

Follow-up letter will be sent and should contain the following: Company to be audited

Audit Period

Auditor’s name

Supervisor’s Name

Date to start the Audit

Before the Audit Begins a pre-audit should be completed Identify sales and use tax exposure/overpayment areas

Advise management of pre-audit findings

Consult with outside tax professionals if assistance is needed



Prepare for a Sales and Use Tax Audit

Exam Areas Sales

Purchases

Capital Expenditures

Procurement Cards

Expense Reports

Retrieve Sales/Use Tax Returns Ensure all returns are available

Ensure all backup is attached Sales Reports

Use Tax Reports

Organize Exemption Certificates Test exempt sales to ensure exemptions certificates are available

Expand the test as needed

5



How to Prepare for a Sales and Use Tax Audit (Cont.)

Secure a capital asset report Establish a dollar threshold to retrieve supplier invoices

Significant use tax dollars are know to be collected in this area

Extraordinary events within the audit period Acquisition of a company

Divestiture of assets, division, or company

Change in ERP/other software systems

Discussion with Management Before the Initial Audit Meeting Sales/use tax exposure findings

Condition of exemption certificates

Are supplier invoices for capital assets found

How will sampling of sales and purchases be handled

Will outside assistance be needed



Initial Audit Meeting

The Day Auditor Arrives for the Initial Audit Meeting Decide who will attend the meeting An outside tax adviser may be recommended

An IT person may be necessary

The state will include the auditor, audit supervisor, and possible the audit sampling expert Many times the audit supervisor will be at the meeting of an inexperienced auditor

Audit Sampling Expert will appear when the Department of Revenue is determined to do a statistical sampled audit.

Establish Ground Rules for the Auditor A suitable workspace away from accounting/tax areas

Escort Around Building

Limitations to Certain Areas

Central Point of Contact

Establish Working Hours

Plant Tour

Dress Code

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Initial Audit Meeting (Cont.)

• Discussion on the Audit• Verify the audit period

• Discuss the Statute of Limitation Waiver

• Discuss sampling methodology and sample selection

• Discuss the auditor’s approach to review sales invoices

• Discuss the auditor’s approach on purchase invoices

• Statute of Limitation Waivers• Allows time for both parties to conduct audit

• Both parties should still complete work in a timely manner

• Protects both assessments and refunds

• Refusal may lead to a jeopardy assessment



Initial Audit Meeting (Cont.) Discuss Sample Methodology Statistical

Block

Stratification

Actual Detail

Auditor should Provide Written Sample Plan Carefully review sample plan prior to signing the agreement

Ensure the tax manager working with the auditor is involved with the sample selection to ensure fair representation

Statistical Sampling Selection Process Reconciliation of control totals

Selection of GL accounts selected for testing

Statistical test of invoices for sales and purchases

Ensure the dollar strata are representative

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Audit in Process

Reconciliation of Sales State auditors will attempt to reconcile gross sales from the federal income tax return

to the gross sales on the sales/use tax returns

Will need to identify reason for the variance

Sales variance may be included as additional taxable sales

Review of Sales Invoices Auditor will use the stratified sample of sales invoices pulled for review to determine if

sales tax was properly invoiced

Auditor will create schedules of audit exceptions where sales tax was not charged on the invoices

Auditor will request exemption certificates to be provided to substantiate the exempt sales

May need to contact customers to request exemption certificates or XYZ Letters XYZ Letter is a document provided to customers asking the status of sales to the customer and

to indicate whether sales are exempt, taxable, use tax remitted, or any other situation



Audit in Process

Review of Purchases Traditional - Capital Asset Purchases Auditors will request a detail report of capital asset additions for the audit period

Auditor will request capital invoices to be retrieved and provided

Auditor will inquire on the capital asset purchases with no sales tax

Taxpayer will need to determine whether the capital asset purchases are exempt Qualify for the manufacturing exemption

Installed in another state

Labor component not taxable

Nontaxable software/license

Use tax self assessed

Auditor will provide schedules of capital asset purchases without tax and cannot be substantiated as an exempt purchase

Traditional – Consumable Supply Purchases Auditors will create a sample of Accounts Payable purchases

Auditor will pull invoices from the sample

Auditor will create schedules of the invoices found with no sales tax

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Audit in Process

Auditor will request and require Taxpayer to determine and substantiate the purchases without tax Qualify for the manufacturing exemption






Statistical Sample of Accounts Payable Purchases Auditor and state’s sampling expert will present a list of invoices to be retrieved that will be have

4 or 5 dollar strata

The strata with high dollar values will have lower projection factor

Invoices for each of the strata will need to be retrieved by either the auditor or Taxpayer

Auditor will request and require Taxpayer to determine and substantiate the purchases without tax Qualify for the manufacturing exemption






How to handle extraordinary purchases



Audit Field Work is now completed Request a meeting with the auditor and audit supervisor , if necessary, secure hard and soft copies of the

audit schedules

Discuss the timing of response to the auditor to substantiate the audit exceptions for sales and purchases

Discuss and understand how the sample exceptions will be projected

Discuss how to handle missing invoices in the sample selection

Discuss how to handle missing exemption certificates

Determine if an outside tax consultant is required to secure exempt documentation and find approach to substantiate exempt transactions

Execute any necessary waivers to extend the Statute of Limitation

Set a final meeting date to present all final documentation

Audit in Process

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Audit in Process

Final meeting with audit Present exemption certificates on sales exceptions

Present use tax information on purchase exceptions

Present other documentation required by the auditor

Determine if the audit will be agreed or unagreed

Ensure all audit schedules are secured from the auditor

Ensure waivers to extend the statute of limitations are updated

Ensure Taxpayer understands the auditor’s position on the unagreed amounts.

Ensure auditor understands Taxpayer’s position on the unagreed amounts

Request penalty be waived at the audit level



Appeals and Negotiations

Jeopardy Assessments

Using External Assistance

Protest

Informal Hearings

Board of Appeals

Formal Hearings

Circuit Court

Appellate Court

State Supreme Court

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Audit Tips

How to Handle Missing Invoices

Removing Extraordinary Items from Sample

Projecting Refunds by Including in Sample Procedures

Privilege Tax States – Purchaser Not Responsible if Vendor Did Not Charge

Speaking with Next Level Above Auditor on Gray Issues



Crowe Horwath LLP is an independent member of Crowe Horwath International, a Swiss verein. Each member firm of Crowe Horwath International is a separate and independent legal entity. Crowe Horwath LLP and its affiliates are not responsible or liable for any acts or omissions of Crowe Horwath International or any other member of Crowe Horwath International and specifically disclaim any and all responsibility or liability for acts or omissions of Crowe Horwath International or any other Crowe Horwath International member. Accountancy services in Kansas and North Carolina are rendered by Crowe Chizek LLP, which is not a member of Crowe Horwath International. © 2015 Crowe Horwath LLP


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