Sales Tax Audits
If you are a small business owner in California, you should be collecting and reporting sales tax. You also have to file sales tax returns with the state. Even if you believe that you are above board with all of this, your business can still be hit with a sales tax audit.
A sales tax audit is exactly what it sounds like; the government comes in and checks to make sure that sales tax was paid properly. The biggest problem that we see in sales tax audits is that when you are auditing a business's sales, it is not very reliable.
What does the sales tax audit process look like? Sales tax audits are pretty rough. They involve large amounts of data, complicated statistical methods and in certain cases, they involve sampling.
Meaning, yes, the state can go through a business's records over three years and audit every single transaction, but the problem with a lot of businesses, particularly a lot of retail businesses, is cash transactions.
You can have differences of opinion where the auditor can claim that there are unreported cash sales or that there should have been additional tax charged or a variety of different issues. The problem with sales tax audits again, is the size of them because you are dealing with three years of individual transactions.
For some businesses, you can have tens of thousands, if not, hundreds of thousands, even millions of transactions over a three-year period. We see businesses all the time, particularly those with low margins and high frequency, that just have an absolutely insane amount of transactions.
The auditor and the representative are working through this very large amount of data and trying to make conclusions on it to make sure the appropriate amount of tax was paid in statement.
My firm, Brotman Law, has seen firsthand how painstaking and drawn-out the sales tax audit process is, because there are so many variables, tests and even opinions involved.
We are a small business and we specialize in working with small businesses in all tax matters, including sales tax audits. In this article, I will walk you through the CDFTA sales tax audit process, how to prepare, how to present your documents, risks, problems, strategies, whether you should settle or appeal and how you would benefit from legal representation. Lastly, I will answer some FAQs.
CDTFA Audits in California
First, the CDTFA (California Department of Tax and Fee Administration) sends you a letter that says, "You are being audited." Then, you will respond to that letter and that kicks off the audit process. From a practical perspective, what happens is the government will usually issue an audit request for three years of information or 12 quarters.
Initially, from the outset of a sales tax audit, you need to understand what your risk is. Ideally, you want to go through the 12 quarters, to gain a general understanding and know where the pitfalls are in the audit. These pitfalls are going to determine what the plan is with the auditor.
From a procedural perspective, you and the auditor will talk. The auditor will say, "We need to set a plan for the audit. I would like to review the records." Then, there is number one, negotiation as to the scope of the records that are being requested.
You do not actually have to give them all three years of records just because they say you have to, and there is negotiation as to what the plan is for the audit. This is highly fact-specific and it is highly fluid, depending on what is being audited, why it is being audited and so forth.
Generally speaking, the idea is that you want to agree with the auditor on a scope of documents being requested and why. Number two, you want to agree on a general audit plan for making sure that this is being handled appropriately, it is being handled efficiently, and that progress is being made to move the audit forward.
Then, based on that agreed-upon plan, the auditor will give you a period of time, usually 30 days, to get your documents together to present them.
What the Auditor is Looking For
CDTFA’s auditors are looking for mistakes. They are looking at your data, they are looking at how that data relates to each other, they are looking at the returns that were filed, and they are looking for any errors that exist.
The most common errors are discrepancies between primary source data and the sales tax returns that were filed. For example, if the sales on your federal income tax returns do not match the sales that were filed in the sales tax returns, the auditor will find that error and figure out a way to calculate what the true percentage of sales were, from the auditor's perspective.
The auditor is then going to look at different things. They are going to look at purchases to make sure that the appropriate amounts of tax were charged and paid, they are going to look for exemption certificates with any resales that were made, they are going to look to make sure that shipping charges were appropriately taxed, and they are going to go through and look at various different issues that are specific to your industry.
The CDTFA is not auditing you by accident. You got selected for audit because they are looking for something. They believe that the effort that they put into the audit is going to yield some error in the amount of tax that you paid, so it is the auditor's job to go through your data and try and find mistakes.
The way you mitigate the auditor going on a fishing expedition is to present something that is very tight, very concise, and to control the scope of information that you give to them. The more tightly controlled the data you are providing to the auditor is, the more that you are going to be able to limit mistakes in your presentation, and the less likely that the auditor is going to make adjustments during the course of your sales tax audit.
First Steps You Should Take
Sales tax audits are very complex because they involve a very large degree of data. For example, when you are dealing with an income tax audit, you can go through a company's bank deposits and determine pretty quickly how much income they had or did not have.
The very first thing that you should do when facing a sales tax audit is to compile your key sources of data, including but not limited to, your federal income tax returns, your sales tax returns, your profit and loss statements, your sales summaries, your 1099-Ks, your merchant accounts, and any other piece of data that is a primary source document with relation to your taxable sales.
You want to take a look at this data and gather it all together because it is going to be one of the important starting points of your sales tax audit.
The next thing you want to do after gathering data is to try and assess your risk. It is really important going into a sales tax audit to try and figure out why the CDTFA selected you for audit.
When you are looking at risk, it is a good idea to get a tax professional involved because most people are not comfortable with assessing their sales tax risk. At the very least, I would recommend that you have a consultation with someone so that you can understand where the risk is, you can understand what the playing field is, and you can understand how to appropriately deal with the sales tax audit.
Notice that in all these steps, I did not say to contact the state. Before having any contact with the auditor, you want to make sure that you gather your documents together; at least an initial sampling of those documents so that you can look for discrepancies between those key areas of reporting and you want to know what your risk is going to the audit.
That way, you can understand how to develop an audit plan with the auditor that is going to be mostly in your favor. I would recommend taking those actions first and then reaching out to the auditor in order to begin the audit.
Documents You WIll Need for the Audit
If you have received a sales tax audit notice and you have read the auditor's document request, you will have a pretty good idea of what they need. The auditor is looking at two things. They are looking at sales that you made and purchases to make sure that sales tax was properly charged and paid on those invoices. That could affect either you or your vendors.
The auditor is going to start by sampling your main records and the summaries of information that you have about your sales. They are going to be looking at your federal income tax returns, your bank statements, your internal accounting, sales summaries, and in certain cases with certain industries, your 1099-Ks.
The next thing they are going to ask you for are copies of your sales invoices and your purchase invoices for the audit period. For a lot of people, including companies that do a lot of transactions, producing all the sales and purchase invoices is quite a tall task.
One of the big things that you are going to want to do is agree with the auditor on perhaps taking a sample for sales and purchases, so you do not have to dig out and organize three years of records. This is a huge time-saver.
Lastly, the auditor is going to ask for special items. These can include resale certificates, exemptions, and any other evidence that they might want to see, like the sales tax accrual account or any supplemental information.
The key is that by sitting down with the auditor and developing an audit plan, you can often streamline this document request down to something that is much more manageable. Again, the more information you give the auditor, the more avenues of attack that you expose yourself to.
You want to make sure that you control things and that you are presenting information in a clean and consistent manner. That is the best way to get through the document part of a sales tax audit.
In any audit, the initial 30-day period is probably the most critical time because this is the time that we have to pre-audit the client, to get access to information, and to go through and analyze what your risk is and then work on what the initial presentation is going to be.
If you have managed to streamline documents, or you have managed to limit sampling in the course of a sales tax audit, this is your best opportunity to really present that information.
The nice thing about narrowing the scope of the audit, is you get to choose the hill that you charge up to fight the battle. Within that, you make a presentation to the auditor. Then you go back and forth until all the questions have been resolved.
Then, the auditor will make a decision. It is either a good decision and you agree with it or it is a decision that you disagree with, or you continue to go back and forth until you refine it to your satisfaction.
In the event that you do not like the decision, you go to the appeals process. In the event that you do like the decision, you sign off on the audit and it is concluded.
It Takes About Six-Months
Sales tax audits take a lot of time; at least six months. Sometimes, they can stretch out to nine months. There are usually multiple rounds of back-and-forth particularly with statistical sampling, when things get complicated. That is generally the way that things will flow during the course of the audit.
Again, the most important time in the audit is the beginning, because you are setting the tone for the audit. You are creating a plan and then it is just about executing it.
If you do that, the audit process hopefully should work in your favor. Again, my advice in a sales tax audit is to always retain an expert. You need to have somebody in your corner who is going to go through these issues with you, help you develop your plan, negotiate with the auditor and make sure the statistical sampling is fair. That is really, really critical for many reasons.
What you do not want is when the audit starts to get off-track, because that is where a lot of the problems get kicked up. The clean-up for that is much more expensive, much more time-consuming, and much more of a headache than if you just did it right the first place.
Audit Sampling and Testing
A lot of the goals of the first meeting with the auditor are to go through the process and try to keep the auditor on pace. Very early in the audit, the auditor has to make a decision on the method of testing that they are going to use.
The auditor is either going to do the direct method of testing, which is based on those primary source documents, or they are going to use an indirect method of testing, which is a statistical sample.
The decision of whether the auditor is going to use the direct method or indirect method of testing can make or break your audit. Depending on which method they use, the auditor will run their test and will draft a preliminary audit report.
After that preliminary audit report gets drafted, the auditor and the representative will work to clarify any discrepancies and then they will produce a final audit report.
If the taxpayer agrees with the audit report, the audit is over. If the taxpayer disagrees with the audit report, they can appeal it.
The Three Biggest Problems in a Sales Tax Audit
Our firm has done a lot of sales tax audits and I can speak very generally about some of the problems that we see most often with our clients or that we have encountered through the years.
Problem number one is the majority of people who are under-reporting sales tax for whatever reason or another do not do enough to cover their bases. That seems fairly silly, but it is really true. The biggest way that people get nailed for sales tax audits is by data that does not match.
When you file a sales tax return, it gets reported to the CDTFA. In the evaluation process to determine whether they are going to audit you, the CDTFA is looking not only at your taxable sales and your total sales, they are looking at your federal income tax returns and they are looking at the information that was reported on your 1099-Ks and any other publicly available information that they can find.
The biggest problem that people have right off the bat is sales tax returns and federal income tax returns not matching. You are reporting a higher or lower amount of the sales than you are on your federal income taxes. When you have those situations, you are probably going to get audited.
There may be a natural explanation for it. You may have tax books, you may have labor built in there, you may have sales that were not in California or you may have exempt sales. There could be many reasons, but the problem that we see with clients is the clients fail to match their data and or they go in the audit without a proper explanation for why their data does not match.
The second big thing we see is invoicing. We see more mistakes on invoicing and it is so hard to build a narrative when you do not have invoices that support it. A lot of the mistakes that we see on invoicing are benign. It is people not separating shipping charges properly or people not accounting for time and material costs or billing things individually.
They are just really simple mistakes and understandable. In a normal course of business, when you are doing your invoicing, the last thing you are thinking about is if a sales tax auditor is going to look at it. How are they going to look at this? From an invoice perspective am I reporting the sales properly at least?
The third biggest mistake we see by far is people operating under the false assumption that because they pay all their sales taxes, they are not going to have any problems. I cannot tell you what a big fallacy this is because of the way that sales tax audits work.
People naturally assume that because they are doing everything correctly, they are not going to have a problem with the auditor.
Always go into a sales tax audit thinking that you have a problem because you will have a problem. You will have an auditor who is going to look over your books and potentially make a correction that might not be in your favor.
Those are the three classic mistakes I see clients make with sales tax audits, and are the biggest things I would urge you to correct ahead of time. Again, sales tax audits are best handled by an attorney. We screen a lot of these issues out ahead of time, but just so you are aware, those are the things that kill the small business owners the most.
Risks of a Sales Tax Audit
The biggest mistake that I see taxpayers make and the biggest area of risk that they have is the dangerous assumption that because they "did not do anything wrong in the sales tax audit, they do not have anything to fear.”
That is not the way it works. The auditors are looking for mistakes in how the taxpayer filed their sales tax returns and in the amount that they paid.
The auditors are devoting a significant amount of time and energy to going through all of your data and verifying your taxable sales. The reality of the situation is that even if you do not feel like you made a mistake, the auditor may find some.
If not, the auditor may resort to indirect methods of testing. When the auditor goes to indirect methods of testing, they are using statistical samples to arrive at what the proper conclusion is.
Auditors tend to go after low-hanging fruit. The auditor is not going to dive into a lot of very complicated things. They are going to go after quick wins. A lot of the quick wins happen when they apply indirect methods of testing.
The auditor is going to put the burden on the taxpayer to produce documents to refute the auditor's conclusion. You should not be guilty until proven innocent in a sales tax audit but sometimes, that is how it goes.
The other biggest stress for taxpayers is penalties. The penalty portion of the liability could be anywhere from 10-40 percent but the real kicker with sales tax audits is those penalties can stack on top of each other.
If a taxpayer was not diligent in their records, they could get a 40 percent penalty and another 20 percent penalty. You can see that 60 percent in penalties adds up really quickly.
A lot of taxpayers do not understand the risks going in. It is important that you go in knowing that number one, there is a huge amount of risk, even if you have not done anything wrong.
Number two, that before the audit even begins, you are taking steps to mitigate and protect yourself as much as possible. Those are the risks that you have to deal with in a sales tax audit.
The direct method of testing is looking at source documents in the course of an audit and making sure that everything matches. That is the preferential way of dealing with sales tax audits because it is the most reliable; it is based on actual data and not statistical guessing.
To illustrate the direct method of testing, take a restaurant, for example. What a direct method testing would involve for a restaurant is looking at the bank statements for a given year, sales tax returns that were filed in that given year, 1099-Ks, merchant account processing statements for credit cards, internal accounting that was done during that year, and then the POS system reports.
You take those five or six pieces of data and you compare them across each other to make sure everything lines up. For example, one of the most frequent errors that we see in sales tax audits with people who are under-reporting their sales tax is their federal income tax returns and their sales tax returns do not match.
To the extent possible, and particularly when the client has not done anything wrong, we want to keep everything to a direct method of testing. If the direct method of testing holds up and the auditor's unable to challenge it, then there is no real reason to go towards any statistical analysis.
The quickest and easiest way to wrap up an audit is to say, "Here are six pieces of paper that prove I do not have any sales tax liability," and going from there. The problems arise when you find discrepancies in those audits and then you have to move to an indirect method of testing.
The direct method of testing is very straightforward and involves testing actual source documents, lining them up and comparing them. When you have a breakdown in the direct method, then sales tax auditors will resort to what they call indirect methods of testing.
Indirect methods of testing is a fancy way of saying, "We are going to play guessing games with statistics." One of the indirect methods of testing is to audit past sales. The auditor will look at current sales and they will perform statistical comparisons between past sales and current sales.
The problem with statistics is you are taking a population of transactions and you are taking a sample of that population.
For example, say I have a restaurant and the restaurant had three years of sales that are included in the sales tax audit. Depending on which days I pick for my sample, it could significantly skew the results of the audit. If I pick weekdays, I am probably going to see a lower transaction amount, and I am probably going to see more cash sales.
On weekends where there are more larger groups and more people go out to dinner, and there are larger transactions. I might see fewer cash transactions. I might see larger than average daily sales.
Two weekdays versus two weekends, if taken as a sample and applied to that population could yield very different results from a statistical standpoint. Even if the restaurant is diligent enough to track its daily sales, if I am using a statistical method to arrive at those sales, versus what the restaurant has, I could get a huge discrepancy.
One of the easiest ones they do this is through an observation test. The CDTFA will send an auditor into a business for a couple of days to look at the sales transactions, whether the employees are ringing everything up correctly and whether they are charging tax.
Then, the auditor will sit there and literally record every single transaction, and they will compare that against the POS system reports to see if there are any discrepancies. That is the observation test. If there is an error within that test, then they will perform certain actions based on that error.
The other thing they can do is they can take the POS system reports in a current period and look at the cash to credit card ratio. A lot of the time, they will take your credit card ratio, which can be verified by your 1099-Ks and say, "Okay, here is the percentage of credit card sales based on current. Here is the amount of cash sales and we are just going to project that across the quarter."
The problem that we see with indirect methods of testing, take the cash to credit card ratio, for example, the auditor comes in and says, "I am going to do two days of testing in a business. I am going to come in on Tuesday at lunchtime and I am going to come in Sunday afternoon."
What the auditor is saying is that two days of testing are going to be used as a sample. They are going to take that sample and they are going to apply it to a population, with the population being a total dataset.
They are going to take a two-day sample and they are going to apply it to a three-year period of a population.
The three-year population is over one thousand days. The auditor is going to take two days of sales, and they are going to say, "These two days of sales, Tuesday at lunchtime and Sunday afternoon, are representative of this entire thousand days of sales." Hopefully, you can see the problems with that.
Some businesses do more credit card sales on the weekends and some businesses are seasonal and will have more frequent sales at certain times than others. With restaurants, families go out for dinner on Saturday nights and those tend to be larger checks. Larger checks tend to be paid by credit cards.
Little hinges swing big doors.and this is why indirect methods of testing are so dangerous. These little statistical changes can have a huge impact on the liability.
One of the reasons I advocate for having someone represent you in a sales tax audit who understands statistics, is because of these situations. We find so many statistical errors.
The auditors are not statisticians, so we find many errors in the way that they are doing their statistical analysis, the tightness of their controls, their procedures and the way they are applying samples to populations.
Whenever possible, you want to avoid indirect methods of testing and focus on direct methods because direct methods of testing are much more reliable than their indirect brethren.
Fighting Back With Your Own Statistics
The way that we counteract this very limited sample taken by the auditor is by gathering a better sample. In the course of a sales tax audit, we feel that it is going to go down to one of these indirect methods of testing, so we will start gathering data immediately. We will take a one-month, two-month or even a six-month sample if that is what it takes.
Then within that sample, we have a much better percentage of data that we can rely on to give to the auditor to counteract their assessment. Number one, if we are dealing with a month-long sample versus three days, you would think that the month-long sample is going to be a better representation of that total population than the two- or three-day test that the auditor did.
Now, it could come out worse with a client depending on what the situation is, but you always have that to fall back on. You can take the auditor's sample if it works better in your favor, you can take your sample or you can distinguish between the two.
Oftentimes, we will find faults in the auditor's data and we will present our data and then we have a better negotiating platform because we have superior data. The most important factor is data integrity.
Whoever has the better data wins, which data looks more complete and which data looks more accurate, will get the nod more often than not. That is how you beat the CDTFA when they run those statistical analyses and how to counteract their data with better data.
If You End up Owing Money
If you owe money at the end of the CDTFA sales tax audit process, you have a decision to make. Can you pay the liability in full? Do you want to pay the liability in full? Do you want to go into collections or is it better to file a petition and pay the liability over time?
This is a strategic decision that we make depending on the taxpayer's facts, circumstances, and how much they owe. However, if you do not appeal the liability, you will proceed into CDTFA collections, and then collections will start to negotiate with you.
In our experience, taxpayers who do not have immediate flexibility to pay the liability or who cannot pay the liability within the course of a year, are recommended to file a petition and proceed through the appeals process. During the appeals process, if a timely petition is filed, it is a good way to delay collections and/or go into settlement.
Oftentimes, we can negotiate a defacto two- or three-year payment plan just by working through the appeals process and settlement and resolving the case that way. This way the taxpayer is not in danger of any levies, any liens, or any adverse collection action from the CDTFA.
It is recommended that clients avoid collections whenever possible and navigate themselves through the best playing field they can for resolving their liabilities.
When dealing with a sales tax audit, the CDTFA settlement process used to be a very good avenue for resolving cases. Unfortunately, these days, it has been a little bit more difficult, and this is why. The problem is if you go through settlement, you cannot resolve things.
If you go through appeals, cases will naturally progress to the Office of Tax Appeals, which is California's version of a tax court.
Recently, the CDTFA has been so good at disposing of taxpayer cases in tax court, that it issued guidance to its own settlement division, which basically states, to not settle cases and let them go forward to appeals.
Now, they will still give some measure of reduction through the settlement division, usually about 10 percent and sometimes as much as 15 percent. But, settlement is no longer as reliable an option as it once was unless you have new documents or new evidence.
The important thing to remember when you are going through the settlement is that it is not as viable an option as it once was, and it is no longer our preferred option. We have actually changed our approach towards CDTFA settlement cases and are placing more of a priority either through working things out on the district level or through the appeals process.
I will just bring that up for you to evaluate in the context of your audit because settlement can be extremely challenging. Summon officers are not the easiest to work with sometimes, although we have a pretty good relationship between their office and ours.
It is a very difficult process and not as flexible as some of the other settlement programs, certainly not the IRS, or some of the other California state divisions that you may have encountered or heard about.
CDTFA settlement is the outlier or the black sheep in all this and you should evaluate that accordingly when making a decision.
When you have a sales tax audit and cannot agree on the audit, the very first step in the process is that you have an exit conference with the auditor and the manager. If that does not bear fruit, the auditor is going to submit the sales tax audit report.
The report is going to go through technical review. The CDTFA has a review department to review the audit report to make sure it is technically correct and then it goes to final billing. Once it goes to final billing and a notice of determination is issued, that is your ticket to file your petition of redetermination to go into appeals.
You file your petition of redetermination and the case moves from Sacramento back to the district level and then the district level will try one more time to get it resolved before going through appeals.
What this usually means is that number one, you get a chance to do a 10-day conference with the district principal auditor. That CDTFA will schedule you to talk with the head of the audit unit for the particular district that you are working in. The manager and the auditor will both be there and then you can negotiate if there is an opportunity to get the case settled with the person who is making the final decision on the issue for the district.
Number two is if the district principal auditor and you cannot agree for whatever reason and the case cannot be resolved in that district, then you go through the formal CDTFA appeals process. When you go into CDTFA appeals, you will get a hearing officer at the CDTFA and you will go in for an appeals conference, which is much like mediation.
You and/or your representative will be there along with the auditor, the audit manager and the appeals office, who could be either an attorney or former auditor. There Is a discussion between the parties on what the issues are and how to resolve them.
What usually happens is there is a conference and then there is a follow-up document submission for the petitioner, usually the taxpayer, to prove their point and so forth.
What ends up happening after that is an exchange of information between you and the auditor and the manager along the lines of, "Here are our documents that prove our point, here is our counter-response.”
Eventually, you reach the point where you cannot submit any more documents, you cannot make any more arguments and the parties just wear themselves out. At that point, the appeals officer will come in, they will look at all the evidence that has been presented, and they will give you a written decision usually within about 60-to-90 days.
That is the process at the CDTFA. There are some tactical considerations that you have to take into consideration when doing a CDTFA appeal. Number one, the CDTFA takes a really long time to get through the appeals process, sometimes a year or more.
It takes usually anywhere between a two-to-five-month process between all the back and forth and the requests for documents and the extensions that are granted to give the parties more time.
If you have an audit that you disagree with, appeals is certainly an option, but you want an attorney who understands sales and use tax to really be able to guide you through this process because again, this is not about winning or failing an appeal. This is about getting out of the audit as cleanly, quickly and cost-effectively as possible.
Appeals is one avenue for that. Working with the district is another avenue and you always have the opportunity to go to settlement as well. Just keep that in mind when you are evaluating whether or not you are going to go through the CDTFA appeals process.
The Case for Legal Representation
The biggest problem that I see with most sales tax audits stems from the lack of proper control at the beginning of the audit. We encounter this problem a lot in our practice, so I will highlight this as an example. When people get notice that they are being audited for sales tax, the tendency is to take the notice and they give it to their CPA to deal with
The CPA is focused on this from a compliance perspective. They call the auditor and they ask, "What do you want?" and the auditor replies, "I want the documents that were issued on that notice."
The CPA gathers up three years of sales records and three years of purchase records on all the internal financials and the bank statements, and then they hand it over to the auditor. Then the auditor takes that information, they go off by themselves, and then they come back and they have a $100,000 bill, and then the CPA freaks out and the client freaks out. So the audit is done, and then somebody calls us and we get involved.
Most clients and most CPAs think about this from the angle of, "We will just produce the documents that the auditor asked for. We did not do anything wrong. We do not have anything to worry about. There should not be any harm in just turning over the documents. Why get an attorney involved?"
The answer to that is even if you have not done anything wrong, there is always the potential for risk in a sales tax audit because of the way things are calculated. So an attorney's job in the sales tax audit is not just to hand over documents and push paper. The attorney should be, number one, controlling the scope of the audit.
They should be controlling both the documents that are being requested and the methods that the audit is being conducted under, and then the attorney is there to help move the process along.
The attorney will move the auditor through the analysis, supervise the analysis, make sure things are being done correctly, make sure the auditor is relying on the most accurate method of testing available, whether that is looking at source documents or conducting proper statistical tests, and then going from there.
So having an attorney who has a knowledge of audit procedure involved early in the process, sets the tone for the entire audit.
It is so much easier to deal with things at the beginning and do them properly than to go back and try and correct things. It is more of an exercise, and time, and effort, and money to get that done when a lot of it could have been filtered out at the beginning.
If you take control of the process at the beginning, control the documents and everything about the audit, you are going to end up with a much better result. That is why it is really important to get an attorney involved early in these audits versus later on.
Working With Brotman Law
Sales tax audits are one of the areas of practice that I am most proud of at our firm. We have dealt with some very difficult cases and gotten some really phenomenal results. I credit that to the hard work and diligence of our team. Brotman Law really understands sales tax audits.
We understand the tax law surrounding why sales are taxable and why they are not taxable. We understand the tax procedure in terms of understanding the interactions with the auditor, their manager, and the district principal auditor, and then through the appeals process, and up through the Office of Tax Appeals.
Finally, we understand statistical sampling which is a very rare quality in attorneys. Most attorneys do not have a strong knowledge of statistics. It is not something that they teach you in law school. Statistical sampling and being able to sustain a data fight in the context of a sales tax audit is a very admirable quality.
We want to be on not only equal footing with the auditor, but we want to have the superior advantage during the entire audit because in our experience that is the way you get results for the client.
We use a very measured approach. We measure twice and we cut once, but our methods are strategic. They are designed to make the process as least burdensome for our clients as possible. They are designed to move them through the sales tax audit process quickly and with as little exposure as possible. We are very good at what we do in the course of sales tax audits.
We fight. We have a strategic tenacity and we do the best we can to leverage our efforts to get you the best result. I encourage you to sit down with us and give us the facts. Let us look at your documents and let us start formulating a strategic plan. Whether or not you ultimately choose to retain us, at least take advantage of the benefit of our knowledge so that we can look at your facts and guide you specifically through your situation.
Sales tax audits have the potential for a great amount of risk for people going through them. Even clients who make the mistake in thinking that because they have not done anything wrong they do not have any risk in an audit. The good news is with our help, strategic planning and expertise with the execution process, you can minimize your liability as much as possible.
Brotman Law’s Sales Tax Defense Strategy
Sales tax audits are notoriously tricky. They consume a lot of resources, both in time, and energy and money. The goal with us and with our clients is to get out of the process as quickly as possible for the least amount of damage.
When we look at a CDTFA audit, we are looking at the cost-benefit of the situation. What is the cost to the client, what is the benefit of a certain action, and how best can we get out of the audit with minimizing our expenditure and being as efficient as possible with our resources?
One of the best ways that we do this is prior to creating the audit plan, we will try and pre-audit the client.
Pre-auditing the client is very important because it gives us a roadmap for how the sales tax audit is going to go and what the areas of risk are for the client. Once we have had the benefit of pre-auditing the client, we can develop a plan for the audit with the auditor. We can navigate the client through the least amount of risk possible with our agreed-upon plan.
This is the best way to approach a sales tax audit. In the meantime, while we are going through the audit process, an eye needs to be kept on the appeals process in case the audit goes south. Disagreements with the auditor can and do happen quite frequently. Even the best well-made plan sometimes will fall apart.
Therefore, it is important for our firm to stuff the record as much as possible with things that are going to be beneficial to the client. To the extent we have control over the preliminary audit report, that gives us a better avenue going into appeals in advancing the ultimate resolution in the case.
Ideally, we want to try and avoid the appeals process, if possible, or use it as a means to get the liability down further after a successful audit. But, depending on the auditor, depending on the methods of testing used, and depending on the size of the fight that we have to engage in, sometimes, that is not always possible.
Whenever possible, we try to minimize expenditure, conserve resources and fight for the best possible outcome for the client.
What to Expect Cost-wise
As I have mentioned before, sales tax audits are very cumbersome processes. They involve a lot of documents and a lot of data and they take a while to get through. At our firm, efficiency is one of our key factors in the work that we do. We want to make sure that the work and the value that we are providing for clients are in line with their cost expectations.
With that said, sales tax audits are a lot of work. There is a lot of organization and presentation of the materials. There is a lot of tendency for disagreements in sales tax audits particularly when the auditor is using statistical samples.
Oftentimes, those statistical samples come out wrong on the CDTFA side and we have to correct them. It gets tough when you have an auditor and you get into a conflict with that auditor and the auditor will back down.
With that said, sales tax audits have the ability to drive cost. One of the things that we do to mitigate cost is by trying to minimize cost in three key areas. The first one is with decisions.
We would like to put our clients in the position to make quick and accurate decisions. The easier decisions come, the easier it is to deal with the sales tax audits and the lower the cost to the client.
Number two is documents. We work with the client and our team to streamline the document gathering, organization and presentation process. A lot of times, we can put the burden on the client and the client has internal resources to handle document organization and delivery much more efficiently than our staff or at least at a lower cost.
If that is not the case, we have a very talented team of junior staff members who have done a lot of sales tax audits and who can work through the process very quickly, assembling exactly what our senior team is going to need to defend the audit.
The third avenue is bureaucracy. Unfortunately, with most agencies, bureaucracy goes hand-in-hand. Occasionally, you are going to have good people in the CDTFA, who are going to move the audit through quickly and without hassle but also occasionally, you are going to have some bad people.
Most CDTFA auditors will fall within the middle but the goal, at least at our end, is to organize the audit to come to terms with the auditor at the beginning and to agree on an audit plan to move the audit forward as efficiently as possible. With those caveats said, what I tell clients is sales tax audits usually range between $5,000-$15,000.
Obviously, that is a pretty big range but it depends on the client, it depends on the amount of data that we are dealing with and it depends on the difficulty that we are having with the auditor. Rest assured, we are going to try and minimize the cost in the process.
We certainly are cognizant of the fact that a sales tax audit is a marathon and not a sprint and we want to save and allocate resources for when we are actually going to need them. We also want no illusions coming in about how big the process is and how much risk it is to you if it does not get completed properly.
That is the best estimate that I can give you about the cost of your matter. If you want to know more, the best way for me to give you a cost projection is by understanding the facts about your particular situation. When I can apply your facts to the situation at hand, I can give you a much better estimate of what the cost would be in your particular matter.