This article was written with contributions by Clark Calhoun of Alston & Bird.
COVID-19 may seem to be waxing and waning nationwide, but its effects will continue to be felt across the world. States have been heavily impacted by drops in sales tax revenue due to the pandemic and are spinning their wheels to figure out how to make up the lost revenue.
According to The Tax Policy Center, April collections fell 16 percent in the 42 states surveyed. Year over year, state tax revenues declined in 34 states. With two months remaining in the fiscal year for 46 states, total state tax revenues are down about $57 billion compared with 2019.
Among states, Utah municipalities face an average 25-percent slide in sales tax revenues from March, April, May and June, and in Alabama tax revenue dropped 33.6 percent in April alone. Texas shutdowns sent the state’s sales tax collections into a worst-in-a-decade tailspin: down 13.2 percent in May from a year earlier. New York sales tax revenue for local governments in May fell 32.3 percent compared to the same period from the prior year. (One thing helping to soften the blow is consumers’ online spending, now largely subject to the sales tax, the NYS Comptroller did add).
In Georgia, April tax collections were down some $1 billion, a 35.9-percent drop and capping the first 10 months of fiscal 2020, when overall revenue collections skidded some $680 million. Massachusetts tax collections of $1.74 billion in May were a 13.1-percent year-over-year decrease. And in Florida, the shortfall has been severe enough to re-ignite talk of instituting economic nexus for out-of-state sellers.
Clearly, the revenues are drying up, if only temporarily. On top of existing sales/use and income tax regimes, states will probably have to consider expansion of taxes on electronically delivered software and services, as well as the taxation of services more generally and consider adopting new gross receipts taxes.
A very likely way states will look to make up lost revenue early on is to crack the whip on sales tax compliance. Their chief tool: the audit.
Why your company?
When a business establishes nexus within a state or jurisdiction, it becomes responsible for collecting and remitting sales tax. Jurisdictions may have slowed or even halted processes during the pandemic, but as things begin to open back up, we can expect the number of audits to rise.
If you have a sales tax obligation, you need to know why you may be at risk of an audit, the implications of an audit, and how you should respond.
Your company may be identified as a result of an audit of one of your customers. In this scenario, auditors will review your customer’s invoices and may see your invoice. Depending on how the invoice “looks” and what it says, the audit of the customer could lead to an inquiry with your business as to why you are not collecting sales tax (or why you may not be collecting sales tax correctly, either because of a tax rate issue, a sourcing issue, or some other detail). Similarly, an audit of one of your suppliers could turn up one of your exemption certificates for something the auditor may think is taxable. You could also be identified through random bad luck or perhaps you participate in an industry that is subject to frequent audits.
Penalties can start at 25 percent of tax liabilities – even non-filing of zero taxable sales can result in penalties.
Preparation and defense
There are some tactics to help you prepare for an audit.
Understand your nexus. This is frequently determined by a minimum number of sales or minimum dollar amount of sales, generally during a year. You can also generate nexus by traveling into states (say for a sales pitch or demo), using subcontractors in given states to fulfill contracts with customers, or even by just exhibiting at trade shows. It’s a good idea to review your sales tax nexus footprint periodically.
Know if your products/services are taxable. Not all goods and services are taxable in all jurisdictions. For example, tangible personal property (TPP) will be taxable unless the specific type of TPP you sell is identified as non-taxable by statute. One of the first pieces of paperwork an auditor will want to see is your exemption certificates. Keep these forms organized, on file, and up to date. Make certain your company hasn’t neglected to file sales and use tax returns.
Wherever you are in the stages of sales tax compliance, focusing on the right resources and time management and having your paperwork in order will help your audit process run smoother.
The best response
When you get the audit notice, begin planning. Consider using a specialist such as a CPA or attorney with experience in representing taxpayers in sales tax audits and controversies.
Should you decide to manage the audit in-house, you may want to consider the best option to shield your staff from the auditorThe best options? Explain the situation to your staff and assign a liaison between the auditor and your staff. The liaison should be the only person on your staff who communicates with the auditor about the audit.
The audit notification should state the start date of the audit and the period under audit (usually at least 36 months). The duration of the audit will depend on, among other factors, the size of your company and the complexity of the data and issues involved. The notice will likely list the records the auditor intends to examine.
One of your first initiatives will be discussing the scope and terms of the audit, and then balancing the time you need to prepare and compile the data against the auditor’s deadlines. Auditors are usually accommodating if you need more time to provide data, so long as the business has been responsive (and it helps to be professional and cordial, too).
At the conclusion of an audit, if you disagree with the assessment, you can protest it. Your first countermove might be a talk with the auditor to review their work and pinpoint any errors or omissions. You can also speak with the auditor’s supervisor.
Follow-up procedures vary by jurisdiction. Check with your consultant or audit specialist, who should also review the audit findings.
Learn More About the Contributor to This Article
Clark Calhoun has represented clients in state tax controversy and litigation matters before state taxing authorities, county boards, state trial and appellate courts, and the U.S. Supreme Court. Representative matters include the securing of a multimillion-dollar income tax refund in a Georgia Tax Tribunal action, receiving a refund of overpaid 911 taxes, defending a company against an unprecedented use of alternative apportionment, and earning a property tax refund for a charitable client.
In addition to state tax controversy matters in Georgia, California, and other states, Clark also represents clients on multistate sales/use, income, property, and transfer tax issues that arise in corporate stock and asset transactions, and he has negotiated voluntary disclosure agreements with nearly every state in the country.
Clark serves on the State Tax Notes advisory board and was the subject of its “State Tax Spotlight” in 2017. He is the current chair of the Business Climate Committee for the Georgia Chamber of Commerce; past chair of the State Bar of Georgia Taxation Section; and he was a significant contributor to a task force responsible for the creation of the Georgia Tax Tribunal. He is also a past chair of the IPT Report’s Editorial Committee and has been honored by IPT for “Article of the Year.” Clark has been named to the Super Lawyers “Rising Stars” list in Georgia and has been recognized in Chambers USA: America’s Leading Lawyers for Business.