Navigating a Sales Tax Audit: A Comprehensive Guide to Protecting Your Business
If you’re reading this, you’ve probably received a letter of audit from a government entity. You’ve also likely now gotten over your initial anxiety and are looking for help with the next steps. You’re in the right place – we’re here to tell you that there’s no need to panic.
So, what exactly is a sales tax audit? And what can you expect?
Definition of a Sales Tax Audit
A sales tax audit is a rigorous examination conducted by state taxing authorities to review a business’s sales tax returns, financial records, and transactions. The primary objective is to ensure compliance with applicable tax laws and regulations regarding the collection, reporting, and remittance of sales tax.
We know, sounds scary. But we can help you navigate the process successfully. In this guide, we’ll unpack various aspects of sales tax audits, including triggers for audits, documentation requirements, strategies for responding to audit findings, the role of tax professionals, and the possible consequences of an unsuccessful audit.
Here’s what you can discover:
- Understanding Sales Tax Audits
- Triggers for a Sales Tax Audit
- Types of Sales Tax Audits
- Common Misconceptions about Sales Tax Audits
- Responding to Audit Findings
- The Audit Process: From Notification to Resolution: Gain insights into the audit process, from receiving a notification to resolving discrepancies and finalizing outcomes.
- How to Handle Audit Findings: Explore strategies for addressing audit findings effectively, including reviewing and collaborating with tax professionals.
- What Happens If Your Sales Tax Audit is Unsuccessful?
- An unsuccessful sales tax audit can result in financial penalties, interest charges, additional tax assessments, legal actions, and reputational damage, all of which can have significant consequences for businesses.
Can’t find what you’re looking for? Let’s talk. Reach out to us at info@milesconsultinggroup.com.
1. Understanding Sales Tax Audits
Sales tax audits are a critical aspect of tax compliance for businesses, with various triggers and types to be aware of. Here’s a breakdown:
- Triggers for a Sales Tax Audit: Audits can be triggered by various factors, such as random selection by tax authorities, discrepancies in tax returns, unusual patterns or fluctuations in reported sales figures, or tips from whistleblowers. A large refund request may also trigger an audit.
- Types of Sales Tax Audits: There are different types of audits, including managed audits initiated by tax authorities, , and desk audits conducted remotely without onsite visits. Also, sometimes a company may receive an information request that’s not an audit yet but is a questionnaire or other request. Failure to respond to these requests often leads to an audit.
- Common Misconceptions about Sales Tax Audits: Misconceptions include beliefs that audit notices can be ignored or that businesses can handle audits without professional assistance. It’s crucial to understand the seriousness of audit notifications and the potential consequences of non-compliance. So, never go at it alone. Miles can help.
Dealing With The Initial Audit Letter or Notice
To begin with, it’s crucial to promptly acknowledge the audit request, even if you’re not fully prepared to address it. This initial communication sets the tone. Typically, auditors are willing to negotiate a reasonable timeframe for the audit process. Requesting a short extension, typically a few weeks, is common and often accommodated.
Again, it’s advisable not to handle the audit alone. While you may initially respond to the request directly, seeking assistance from a seasoned professional to manage the ongoing audit is recommended. This outside perspective is valuable because:
- You might be too close to the situation to assess it objectively.
- There’s a risk of providing inappropriate responses to queries.
- Unintentionally disclosing information that could undermine your position is possible.
- Other members of your team might divulge seemingly irrelevant details that could be detrimental.
Before divulging financial information, it’s wise to conduct a pre-audit assessment. Read the 3rd blog article in our tax audit series, The Pre-Audit, for more help. Timing is crucial, as the auditor typically requires data promptly. However, it’s essential to gauge potential exposure before sharing sensitive data. This pre-audit evaluation should encompass:
- Assessing the tax implications of your products and services. For example, are your various revenue streams properly categorized as taxable or exempt? If the determination is not clear or it’s in a gray area, do you have evidence supporting your position?
- Reviewing the accuracy of previously filed returns.
- Ensuring the availability of supporting documentation such as resale or exemption certificates. We often work with clients who have a large number of sales for resale. While it may seem clear that those transactions are exempt, upon audit, a seller must be able to provide valid resale certificates. If not current, now is the time to reach out to customers and obtain the certificates!
Lastly, when the audit is underway, use us as your go-between – we do it all the time. Note that procedurally, your consultant will need a power of attorney to begin communicating with an auditor. Once filed, auditors will begin directing all questions to the consultant.
2. Responding to Audit Findings
The audit process involves several stages, starting with the notification from tax authorities and progressing through the examination of financial records to the resolution of any discrepancies, and finally the assessment. This process often takes several months from start to finish as there tends to be a lot of back and forth between the company and the auditor. Auditors and companies dance between information document requests (“IDRs”) on the state side and supporting documentation on the company side. There can be various iterations of this exercise. Be prepared for the long haul. Here’s how to effectively handle audit findings:
The Audit Process: From Notification to Resolution
Upon receiving a notification from tax authorities, businesses undergo a thorough examination of their financial records. This process entails the review of various documents and transactions to ensure compliance with tax regulations. Subsequently, the findings of the audit are communicated to the business, highlighting any discrepancies or errors identified during the examination. Finally, businesses work towards resolving these issues through negotiation with tax authorities or, if necessary, through the appeals process.
How to Handle Audit Findings
Upon receipt of audit findings, it’s crucial for businesses to carefully review the results. This involves a detailed examination of the discrepancies or errors identified by tax authorities. Businesses should then take proactive steps to address these issues, which may include providing additional documentation or explanations to clarify any misunderstandings.
Miles will step in here to develop a comprehensive response strategy to effectively resolve audit findings and mitigate any potential penalties or liabilities, if possible. Note that our recommendation is almost always going to be to get as much of the audit resolved at the auditor level. Sometimes a meeting with the auditor’s supervisor may be requested before finalizing. It’s also important to note that if it appears that the state won’t budge on an issue, the strategy may be to try to resolve it at the appeal level. Sometimes the route to go is settlement. How to engage in that process varies by state.
3. What Happens If Your Sales Tax Audit is Unsuccessful?
An unsuccessful sales tax audit can indeed lead to several significant consequences:
- Financial Penalties: Businesses may be subject to fines or penalties for failing to comply with sales tax regulations. These penalties can vary depending on the severity of the non-compliance. If the audit process has been collegial, penalties can often be waived or lowered.
- Interest Charges: In addition to penalties, businesses may also be required to pay interest on any unpaid taxes accrued during the audit process. Remember, interest is statutory, so even though sometimes penalties can be waived, there will always be an interest charge.
- Additional Tax Assessments: If discrepancies are found during the audit, tax authorities may assess additional taxes owed by the business, or flag the company for future audits.
- Reputational Damage: Public knowledge of an unsuccessful audit or legal action can damage the reputation of the business, potentially leading to loss of customers, partners, or investors.
Remember, there are various avenues of appeal, if you disagree with the outcome. And again, we’ll help you with that.
Click here to read our article on Navigating Sales Tax Penalties and Assessments.
Did you get that audit notice? Not quite sure how to handle it? The trick is proper preparation, thorough documentation, and responding promptly to audit findings.
Mostly though, don’t do it alone.
Book a consultation with Miles Consulting, drop us a line, or send us an email at info@milesconsultinggroup.com.
