In “The Car Dealer's Guide To CA Sales & Use Tax Audits - Part 3,” we discussed what happens after a Notice of Determination is issued, California's special tax districts, DMV registration fees, not-so-secret warranty strategies and the importance of keeping your bill of lading.
In Part 4, we continue with processing transactions such as unwinds and the more complicated rollback. We will also discuss why it is a bad idea to try to avoid paying sales taxes on repossessions.
Finally, if perchance you do get audited, we've provided a list of records you should be keeping in your deal jackets and several reasons it would be a good idea to hire an attorney to represent you.
Although in each of the following cases the dealer winds up in possession of the car, the following transactions vary for sales tax purposes. The main distinction to be cautious of is between an unwind and a rollback.
An Unwind references an incomplete vehicle transaction where a Report of Sale has been completed, but the customer did not take delivery of the vehicle. Processing an unwind is relatively easy.
The dealer will simply void the Used Report of Sale and complete a Statement of Facts that confirms the vehicle never left the dealer’s possession and was not operated.
The dealer must retain all copies of a voided report of sale and the REG 256, with the book copy, at the dealer’s primary business location so it is available in the event of an audit.
In the event that the return takes place after the customer has received delivery and operated that vehicle, this transaction must be treated as a rollback.
Under the DMV’s Vehicle Industry Registration Procedures handbook, a sale is triggered for registration purposes once the vehicle is operated by the customer. The report of sale cannot be voided when this occurs; all fees are due from the date of sale and must be submitted promptly to DMV.
A rollback usually happens financing could not be secured by the dealer, and so the dealer exercises a valid contractual right to rescind the transaction before some enumerated deadline in the contract.
When this occurs, down payment and other money paid by the customer should be returned and the dealer takes back possession of the vehicle. Although there may be other reasons why a vehicle is returned, this is the most common circumstances for a return after operation.
As stated above, once the vehicle is operated, a dealer is required to submit registration fees. Although the dealer may think the deal is null and void, a sale has essentially been recognized and recorded in the DMV database.
The process for handling a rollback is much more complicated than an unwind. In addition to the basic transfer requirements in Chapter 11 of the DMV Procedures Manual, the following are required:
Because the CDTFA auditor will crosscheck the dealers reported sales with the DMV database, these rollback sales may become problematic if the dealer is unable to prove that the sale did not go through and all payment was refunded to the customer.
Another way a car might make its way back to the dealer is if it is repossessed. Regardless of time elapsed, a repossession does not negate sales tax. Even if the repossession occurs before the end of the reporting period, sales tax is owed on the entire taxable amount.
Auditors are trained to assume that dealers are repossessing the vehicles and inappropriately treating them as unwinds to avoid paying tax without having returned any of the funds. This is a temptation for many dealers, and you should avoid this at all cost.
However, there is a process to claim credit for sales tax paid on bad debt. A dealer must first claim this bad debt as a loss when filing their federal returns. Once the dealer has made this claim on their federal returns, they may apply to be credited for a prorated portion of the sales tax which corresponds to the bad debt.
For example: if 50% of the agreed taxable amount is charged off as a loss, you can reclaim 50% of the sales tax paid once you have filed your federal return.
Although this is particularly useful for dealers who carry deals in-house, almost all dealers can take advantage of claiming credit on bad debt. Think about all the pick-payments your dealer has allowed in the past year. These deferred down payments may go unpaid notwithstanding your best collection efforts.
If you find yourself in an audit, be sure not to leave any money on the table. Sales tax credits like the one above can be identified and used to help offset areas of liability.
Reach out to an industry knowledgeable tax professional today if you believe that you have unclaimed sales tax credit owed to you.
Unlike franchise stores, used car dealers are not required to maintain certain types of records. This ends up being a major pitfall for most independents. Poor record keeping practices can land you in hot water once a tax audit rolls around.
While the majority of used car dealers do a decent job maintaining their deal jackets, this is just the baseline. Here are the contents of a well-kept deal jacket.
The following list of items should be kept in your deal jacket if they aren’t being filed there already:
A dealer must be careful to appropriately document any less than usual developments that take place after the sale of a vehicle. In a perfect world, every sale would stick. We all know that sometimes life happens; customers change their mind, financing falls through, or financial circumstances change.
In an ideal world, every business would be preparing for an audit at all times. Pristine record keeping, good systemization, and redundancies make coping with the demands of any audit so much easier, but reality rarely measures up to those standards of perfection.
If an audit takes you by surprise, you will need some time to prepare your books and records for inspection.
Speak to your attorney, bookkeeper and/or CPA about the documents required. You may wish to arrange for a reverse audit, where your tax attorney or other tax professional looks at the records for the time period of the audit.
Not only can they advise you of potential problem areas, they may even be able to find instances of overpaid tax. These credits could help to offset any assessment made by the CDTFA.
While it is possible that the CDTFA will approach you with an adversarial attitude, it is to your advantage to meet the auditor with calm professionalism. There is a lot you can do to boost your credibility and to help the audit proceed quickly, smoothly, and as painlessly as possible.
Going through an audit can be immensely stressful and isolating. If you have any reason to believe that the CDTFA may find discrepancies in your sales/use tax, the worry about impending consequences can cost you many nights of lost sleep.
Even if you think that everything is in perfect order, the sense of being a small business owner up against the behemoth of the CDTFA can leave you feeling outmatched and alone.
Hiring a qualified tax attorney is one of the best things that you can do for your business during an audit. You can expect your attorney to:
OVERSEE THE SALES AUDIT to make sure that the auditor is conducting the audit correction at every stage.
Our best stuff: secrets, tax saving tools, and tax defense strategies from the braintrust at Brotman Law.
These ten big ideas will change the way you think about your taxes and your business.
Find the articles and videos you need to make the right tax decisions in the learning center.
It is not just about what we do, but who we are, why we do it, and how that benefits you.
Meet with us to outline your strategy. No further obligation, 100% money-back guarantee.
IRS Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, I must inform you that any U.S. federal tax advice contained in this website is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter contained in this website.