It costs a lot of money to keep a massive bureaucracy like the State of California running. Roads, schools, parks and hundreds of other public programs all cost money to build and maintain. A significant portion of the money necessary to accomplish this comes from the revenue generated by sales taxes. California needs these funds according to our lawmakers. Therefore, they do everything possible to ensure that these taxes are collected by retailers and paid to the state. If you are a retailer in California, the odds are that you will be facing a sales tax audit at some point.
The California State Board of Equalization, or BOE, is the government agency responsible for collecting and enforcing the state’s tax laws. When it comes to sales taxes, the BOE routinely conducts audits to make sure that businesses are tax compliant. In fact, some businesses are audited every three years.
Several factors may increase your business’ chance of being the target of an audit. These include:
- A large number of cash transactions
- A large number of tax exempt sales
- Being involved in an industry that has a reputation for tax irregularities
- Doing business with a vendor who is in violation of the tax laws
- Going out of business or selling your business
- Having past tax troubles or being late or irregular with your tax payments
The Initial Audit Process
You will probably first learn that your business has been selected for a sales tax audit when you receive a telephone call from the BOE auditor. In this phone call, the auditor will lay out the purpose and terms of the audit. He or she will also ask for a meeting and give you a preliminary list of the records and documents you will be required to provide. While receiving an audit call is stressful, it is also an opportunity for you to take steps that will help your business in the long run.
Good relations with the auditor as well as proper preparation are important, so make sure that you take this initial contact seriously. There is a certain amount of flexibility in scheduling the audit. You can ask for and probably receive a two- or three-week extension to gather the materials and documents required by the auditor.
Asking for any more time than that will likely result in the BOE requiring you to sign a waiver of the statute of limitations, extending the time frame in which the BOE may assess you. Obviously, you should consult with an experienced sales tax attorney before signing any documents that will affect your rights before, during or after the audit.
Once the audit itself has been scheduled, you must gather and review the documents itemized by the BOE in that initial telephone call. That list is usually only a jumping-off point. You can expect to be asked to produce additional documents as the audit moves forward. The most commonly requested records include:
- A general ledger
- Sales and use tax returns and worksheets
- State and federal income tax returns
- Sales invoices
- Purchase invoices
- Till receipts
- Documentation supporting exempt sales, such as resale certificates or freight bills.
If the audit is being held at a BOE field office, you are responsible for bringing all of the required documentation to the BOE office. If the audit is being done on your premises, you will need to provide the auditor with a workspace or office. In either case, maintaining a professional relationship with the auditor will always work in your favor. However, this doesn’t mean that you should volunteer any information or documentation that hasn’t been requested.
The Audit Itself
An auditor is mainly looking for either honest mistakes and oversights or evidence of willful dishonesty and misrepresentations. While each audit is different, most begin with a comparison of your books and ledgers with the tax returns you have filed for the period in question. This may result in a more detailed examination, statistical sampling and/or markup testing.
Depending on your industry, undercover investigations may even be used. For example, restaurants and bars may be visited by BOE employees posing as customers to ensure that the amount of alcohol served – 16 oz. of tap beer, as an example – is equal to the amount reported as being sold.
The Post Audit Process
Once the audit is concluded, an exit meeting is held where the findings of the audit are reviewed. Now is the time to raise any disagreements with the auditor’s conclusions. If you do disagree with the auditor’s findings, you will be given a chance to assemble evidence that supports your position. You will then present this evidence to the auditor who will take your additional information under advisement and either alter the findings accordingly or reject your position.
The auditor will then prepare a formal Report of Field Audit. Once this report is filed, you will receive a Notice of Determination that will lay out the taxes, interest and penalties you owe or the amount of a refund you can expect to receive.
If you are entitled to a refund, you can expect to receive it within four to six weeks from the conclusion of the audit. If you owe money, the full amount is due and payable within 30 days of the issuance of the Notice of Determination. Failure to pay within 30 days will result in a penalty of 10% of the amount owed being added to the total. Interest will also be charged at varying rates. If the amount continues to remain unpaid, the BOE will issue liens, levies, or may even seize properties and assets owned by your business.
If you continue to disagree with the results of the audit, you must start the appeals process by filing a Petition for Redetermination within the same 30-day period discussed above. By filing this petition, you are not required to pay the sales tax, interest or penalties until your appeal has been decided by the full five-member Board. But, keep in mind that the BOE appeals process is long and involved (sometimes taking as long as six years); thus, interest will continue to grow. To have the best chance of success, hire an experienced tax appeals attorney as it is important to remember that when it comes to a sales tax audit, you are presumed guilty until you prove your innocence.