Sales Tax Audit Survival

Sales Tax Issue Prevention List

The following list will help ensure all of your sales tax issues are correct from the get go. I recommend keeping a sales tax worksheet for each year or period to reflect current figures used, any notes, accruals, etc. you may want to have easy access to during an audit to help explain anything that might come up.

If you are required to collect sales tax, have your sales tax permit.
File all sales tax reports and payments on time, every time.
If your customer claims to be tax exempt, ensure you have a properly filled out, acceptable exemption certificate signed by them. If they are direct pay, ensure you have a properly filled out direct pay certificate assigned to your business, filled out and signed. If using a system like QuickBooks Online, I recommend attaching a copy to the customer record for easy reference and retrievability.
If you are buying items to be consumed as part of a billable job and will be charging your customer sales tax or using their provided exemption, then ensure you provide your vendor with a Resale certificate so you do not pay them sales tax, but instead charge your customer, collect sales tax and pay this way when you file the sales tax report unless you have a valid exemption certificate on file for said customer. Ensure you only use this resale certificate for items that are billable within that job. This does not include items like work gloves, etc., things used by your company but not an actual part of the job, even though you may have needed them for the job, they are not direct billable costs of the job and you should pay sales tax on such purchases if applicable.
When buying items to be used by the company and you have not paid sales tax to the vendor or individual, you are required to pay use tax when you file your sales reports. You should accrue the tax portion. More on this below.
Study up on nexus if you do business in multiple states or have an online sales platform. You may find you have nexus in other states and are required to collect and pay in sales tax, obtaining a permit for varied states. These rules are ever changing.

Let’s Break It Down a Bit.

You should apply with the Comptroller when you start your business in order to obtain a sales tax permit if needed. Sales tax, depending on the amount, are due monthly, quarterly, and yearly. Always file your sales tax report and make your payments timely. There is nothing more likely to bring attention to yourself then falling down on the job, filing late and having to pay penalty and interests due to same, and penalties are generally not deductible.

If your customer, whom you will invoice, claims tax exemption status, you are required to have a resale or other form of tax exemption certificate on file. It is your responsibility to obtain this and to ensure your customer has filled it out completely. If the certificate is filled out completely and you believe it to be good, the comptroller will accept that you took this certificate in good faith. You are responsible for only accepting a complete and correctly filled out exemption certificate, resale certificate, or direct pay certificate. If your customer is direct pay, this means they accrue all sales tax and pay them into the comptroller’s office themselves for the companies they choose to provide this certificate too. Always ensure that what is filled out on these certificates fits the services or products you are selling to them. For instance, if the certificate states parts, but you provide services too, the certificate must state, parts and services. Be sure the certificate matches what you are selling to them.

Getting down to use tax. Use tax is the same as sales tax rates but varies as it is not paid in due to an invoice you collected payment on but rather a vendor or individual your company purchased something from where you were not charged sales tax. For example, you have a few company trucks and you go on face book and oh wow, there are four great tires, cheaper than you can get them from a dealer and decide to buy them right then and there. The seller of these tires is just a regular guy and he is not charging you sales tax. The individual is asking $300 per tire, $1,200 total so you arrange to pay him and pick up the tires. You write him a check, pay in cash, or use a credit card, doesn’t matter and now you’re ready to enter this expense to the books. The entry might look something like this then. Debit, Vehicle Repairs and Maintenance, 1,299.00 the full cost of purchase plus use tax, Credit, Cash, $1,200.00 and Credit, Sales Tax Payable for accrued use tax of $99.00 (8.25% in my area, this will depend on your sales tax rate). You paid the man $1,200.00 and accrued $99.00 in use tax that you will pay to the comptroller when you file sales tax for this period. If you have bought a $5,000.00 trailer let’s say the entry would be something like, Debit, Machinery and Equipment (fixed asset) $5,412.50, Credit, Cash $5,000.00, and Credit, Sales Tax Payable for $412.50 worth of use tax at your taxable rate (again, I am using 8.25% .) When you buy supplies, assets, etc. for your company and the vendor does not charge sales tax, you are responsible for applicable use tax. Now, if you are buying from another company it might be helpful to tell them, you need to charge me sales tax and pay the sales tax instead of filing and paying use tax. Why do I say this? If that vendor happens to go through a sales tax audit themselves and all the invoices they have given you had no sales tax, they most likely will bill you for unpaid/unbilled sales tax or contact you and inquire whether or not you paid use tax. If you have paid use tax, the vendor will not be able to clear it from their sales tax audit unless you provide all of the required information the sales tax auditor requires. This usually will include your notes of the exact invoices you accrued and paid use tax on (another good reason to have those workpapers), the month these were accrued and when the report was filed and taxes were paid. You most likely will need to provide this vendor with copies of supporting documents in order for the comptroller to clear these issues from that vendor’s current audit. Since individuals don’t collect and pay sales tax, use taxes there won’t present a potential issue down the line unless of course you didn’t accrue and pay use tax.

Keep a good record when filing sales tax reports. I would recommend an excel spreadsheet for sales tax, where you log the total sales, the taxable sales, exempt amounts, details of any use tax transactions like company name, invoice number, total amount due, any adjustments and amount paid, or details of any other issue that may have cropped up. Having this worksheet can be a life saver down the line if something happens and a total sale amount for a period were to change due to a date issue or other reasons and will definitely be helpful in the event you must prove use tax paid in order to aid a vendor in a sales tax audit down the line or avoid having to pay said vendor and seek refund from your state. Always accrue the sales tax liability as above also as this is required record keeping and those accruals may also have to be produced as proof for helping another vendor when you had paid use tax.

Nexus rules are ever changing. This is a topic you should study if you sell products or taxable services online or do business with customers or vendors in other states. The rules currently seem to be in flux and changing. Each state has varied rules, some have to do with total sales, others have to do with whether or not you have an employee working in that state, have a warehouse, or office, etc. within that given state, traveled to that state for business, etc. If you do business outside of your own state, study up.

Sales Tax Audit Notification:

When you have received an audit notification, the auditor will provide you with a list of items required for them to get started. Sometimes the audit can be handled remotely and at other times they will come to your office for the entire audit where required documents are more easily attainable. The auditor may want to have a tour around the office, yard, warehouse, etc. to get a better feel for issues that might crop up. As to documents they will ask for the following are the most likely.

Sales tax payable detail. This shows all sales tax charged, or accrued, paid for the given audit period.
Customer sales detail reports. To show which customers were billed or have paid and whether or not sales tax was collected for the audit period. They may request copies of invoices.
Sales tax reports filed and payments made. Here your notes may well come in handy too. Audits usually come a few years after the fact and without these worksheets you may be hard pressed to recall details.
Copies of all exemption certificates or direct pay certificate that you have on file that support the times you do not charge sales tax. Ensure they are correctly filled out, dated, and signed.
They may ask for a list of the company assets and copies of those invoices. Here they will ensure you were charged and paid sales that or that you accrued and paid use tax. They may request depreciation schedules as support for the assets claimed.
They may poke around in other vendor invoices to ensure you have paid sales tax where applicable or accrued same.
Keep in mind, if your business files tax on a cash basis, then sales tax are paid on a cash basis and if your business files taxes on an accrual basis, sales tax are also payable on an accrual basis.

They may ask for other records depending on the size and volume of business. Having all of your ducks in a row will greatly aid your audit survival.

One additional thing I will mention and this is strictly my own opinion. When the comptroller sends you a notice of audit, there are companies out there that search these notices online and the likelihood that one will contact you is pretty high. These companies will offer to help you manage the audit, usually for a given percentage of what they save you. For instance, the auditor may have found a significant number of errors and this company will offer to manage the audit for a given percentage of the amount saved. If you had all of your things in order there is no reason you cannot manage this audit yourself or with the help of a good bookkeeper. The main way of surviving the audit will be to avoid costly mistakes like not having good exemptions certificates on file with copies easily obtainable, and or, not having collected or paid in sales tax as should have been done. Ensure the status of sales tax for the type of business you have when you start and get things going right. Doing things right from the start is the best insurance. If by chance you did not and you find yourself in a difficult position, your task then will be to go to the customers that should have provided you with exemption certificates and get them, dated and filled out correctly for the services or products you provided. Find out if, when any of them filed and paid use tax instead and gather records if possible. I would not recommend hiring one of the random companies that will most likely contact you offering assistance after they found that the comptroller had sent you a notice of audit. If you need help, get a bookkeeper that has been down this road or seek advice or help from a trusted CPA. These other firms can land being very costly although not having done things right from the start can be costly in many ways too. Be mindful of who you engage to assist you and the costs involved.

As always, if you have questions or need help Contact Me.