What Are Common Problems in a Sales Tax Audit?

So we've done a lot of sales tax audits on our firm and I can speak very generally about some of the problems that we see most often that our clients encounter or that we've encountered through the course of dealings. So problem number one is the majority of people who are under reporting on sales tax for whatever reason or another don't do enough to cover their bases. While that seems fairly silly, it's really true. The biggest way that people get nailed for sales tax audits is by data that doesn't match. So what happens is when you file a sales tax return that gets reported to CDTFA and then in the evaluation process to determine whether they're going to audit you, CDTFA is looking not only at your taxable sales and your total sales due looking at your federal income tax returns, but they're looking at the information that was reported on your 1099 Ks and any other publicly available information that they could find. So the biggest problem that people have right off the bat is sales tax returns and federal income tax returns not matching. You're reporting a lower or higher amount of sales than you are on your federal

income taxes so when you have those situations, you're probably going to get audited. There may be a natural explanation. You may have taxable demand labor built in there, you may have certain sales that were not in California and may have exempt sales. There could be a variety of reasons but the problem that we see with clients is that clients fail to match their data and/or they go into the audit without a proper explanation for why their data doesn't match. Number two, the big thing we see is invoicing. We see more mistakes on invoicing and it's so hard to build a narrative when you don't have invoices that support what that narrative is and a lot of the mistakes that we see on invoicing are benign. It's people not separating shipping charges properly or people not accounting for time and material costs or billing things individually. They're just really simple mistakes and the problem is look again in a normal course of business when you're doing your invoicing. The last thing you're thinking about is is the sales tax auditor going to look at this and how are they going to look at this. You know I'm reporting sales properly, at least from an invoice perspective, but it makes a huge difference and I can't tell you how many situations we've had to dig clients out of by saying "look your invoicing doesn't accurately reflect what's going on here." It's a real big problem so there's not enough screening of invoicing going into the sales tax audit. Number three, by far the biggest mistake we see is people operating under the false assumption that because I pay all my sales taxes, I'm not going to have any problems. I can't tell you what a big fallacy this is because the way that sales tax audits work is people naturally assume because I'm doing everything correctly, I'm not going to have a problem with the auditor. The problem with the sales tax audit is there's just too much data there so always go into a sales tax audit thinking that you have a problem because you do have a problem. You have an auditor who's going to look over your books and potentially make a correction that might not be in your favor so those are the three classic mistakes I see clients making in sales tax audits and that's the biggest things I would urge you to correct ahead of time. Again sales tax audits are best handled by an attorney. You screen a lot of these issues out ahead of time but just so you're aware those are the things that kill the clients the most.


Sam Brotman, JD, LLM, MBA

Owner and Director of Legal
Brotman Law