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Jan 01 2020
Part III Sales Tax - The Good, The Bad and The Ugly
April Tanner, CCE, Kimball Equipment

Part III of the Sales Tax series The Good, The Bad, and The Ugly


This is just an overview of sales tax; I am not an auditor (but have been though many audits) and I am not a tax accountant (but know a few) and am not a lawyer (obviously). This article is written from my viewpoint and understanding of processes learned over the many sales tax audits I have endured.  Please consult with your own company's tax experts if you have questions about sales tax. There may be attachments to this article, and they are based on the State information found at the time this article is published.

The Ugly (but they don't have to be!) - Audits

It is January 2020 - if the sales tax auditor showed up today - are you ready?

Have you been through a sales tax audit? A sales tax audit will look at sales tax in relation to customer purchases and your company purchases (use tax.)  Because sales tax effects customers, it effects the credit department. This article will focus on sale tax in relation to customers, it will not focus on sales tax reporting or use tax as those are often a function of a different area of the accounting department.

When the auditor is in your office, they will review sales for a set period of time. Depending on the audit type and size of your company they may look at all sales for the given time period or take a selection/sample. They will look at all sales, not just sales that were not charged sales tax. It is the auditor's duty to review invoices to make sure your company is charging tax for all the appropriate items on an invoice and that the correct rate is charged. They will also review invoices that were not charged sales tax and check your paperwork. Auditors have a knack for finding errors - it is their job. They may review documents you may not expect. For example, auditors have checked to make sure we have shipping documents that match the ship to on invoices. They may review G/L accounts you were not expecting.

Sales tax to customers is complicated; lucky for us most accounting software completes the task quickly and efficiently. What is taxed on an invoice varies by State. Some States charge tax on labor, other do not. Some States tax freight in but not freight out. In my office we have what we call a "tax cheat sheet" that lists what is taxed in each State by various categories for quick reference. The auditor will check to make sure your calculations on each line of an invoice and each tax/nontax category are correct. A company I worked for had a small programming error on just a few of the over 10K items in the inventory and those items were somehow tagged in the software not to charge sales tax - ever. We never noticed in accounting and never had a customer give us notice. The auditor found those three inventory items that were not charging sales tax and then made our company pull every invoice where we had sold the item and pay the tax, penalty and interest.

If you sell from multiple locations in a State, the auditor will make sure that sales from each location are reported and remitted properly. Both Utah and Arizona are 'ship from' States and tax is calculated based on where the product was sold not where it was delivered. In my companies' case, we have to make sure when and order is entered by one location but fulfilled by another location that the tax codes are updated in the order processing system otherwise we won't collect the correct sales tax amount due on the sale.

Sometimes you find out about interesting tax laws during audits. For example, during a tax audit by Nevada an auditor informed us that sales tax is due on equipment rented to Nevada government entities that provided tax exemptions. The government entity does not have to pay the sales tax amount, but your company must still pay the sales tax on the rental. There was a great deal of "debate" between the auditor, our controller and me over this part of the Nevada tax law. Needless to say, we had to pay the sales tax on prior rentals and interest and penalty - even though the customer did not owe the tax, we the supplier did owe it. We now track rentals to Nevada government entities closely.

The auditor will look to make sure the customer name matches the name on the certificate you have on file. The auditor will look at the tax forms submitted for the same period of time to make sure all figures match and look for errors, adjustments and anomalies like rounding errors. The auditor will also look to see that you submitted the tax you collected. For example, if you charged tax on a line that should not have been taxed and collected the tax from the customer, you should have submitted the payment amount to the tax commission even if it was an overage. They will look to see what your accounting policies are in relation to sales tax. They will often look for an example of what you do when a customer pays sales tax on an invoice after it was invoiced without tax. The auditor wants to know how your company accounts for those funds. If the auditor pulls a sample, they will then extrapolate based on errors found (if any) sales tax due, fees/penalties and interest due based on the error rate. Of course, we would all love to have audits in which no error is found but when the auditor is reviewing sales and use tax for a multiyear period of time this is rarely the case.

When an auditor comes to our offices, we introduce the accounting team, show the auditor our policies, how the software works and where all documents are kept. We want them to fully understand we are here to make their job easier and that we want to fully comply with all State laws and pay the correct sales tax. As an accounting department we work together with the auditor during the entire process. Sometimes we need to dispute findings and correct missing forms which are essential during the audit process, reducing the errors thus reducing the fees. We ask for copies of the laws and regulations being quoted by the auditor if we are unfamiliar with the tax law.

After the audit be sure to conduct and internal review of the tax audit, what worked what did not. Review company policies, procedures, reporting and software. Make changes where necessary and distribute the information to the accounting department, manager and owners.

This of course is not an example of every aspect of a sales tax audit. It is an overview and does give examples of how detailed an audit can be. Audits may be costly in fees and penalties but also in people hours so being prepared is vital. Start 2020 by reviewing or enacting good policies and procedures in relation to sales tax. Taking time now will require some effort but it is invaluable during an audit. Performing an internal review of your company policies and procedures is beneficial and should be done regularly as employees, laws and software change. Doing the leg work early and keeping it up will reduce risks and save both time and money in the long run.

I hope you have a fabulous and audit free year!!