Most business owners stress about their income taxes and ::gasp:: if they will get audited. Many however, don’t think about the possibility of a sales tax audit. Maybe they don’t know that businesses are frequently audited for sales tax. Maybe they just assume that as long as they are collecting and remitting, that they are OK. Regardless, state tax audits are on the rise, particular when it comes to businesses that purchases supplies from out of state businesses. The IRS is no force to reckon with, and neither is the state. Which is why it is so important that you are charging and collecting sales tax when appropriate as well as keeping track of any sales tax (use tax) you may owe to the state for business purchases. Here are 5 of the most common red flags that could trigger a sales tax audit for your company:
- Reporting $0 use tax when filing a sales tax return. State tax agencies are very aware that businesses make out of state purchases so they look closely at use taxes. If you don’t have out of state purchases, that is fine, just make sure you have good records. Then for any out of state purchases that are taxable, be sure to report the use tax when you file. Additionally, if an in state vendor does not charge sales tax on taxable items or services, then you must report and pay the taxes due. According to the Minnesota Department of Revenue, these items purchased from out of state vendors are subject to tax (and should be reported as use tax):
- computer hardware & software
- office supplies & equipment
- business furniture, fixtures & accessories
- Performing services in other states. If you perform services for customers in another state and that customer is being audited (by their state), chances are your invoices will be reviewed and sent to your state agency if they find anything interesting. Invoice line items that are scrutinized are out-of-pocket costs such as hotels, meals and car rentals. While you legitimately may not need to charge your out of state customers sales tax, just be sure that your records are in good shape if the state auditor comes knocking at your door!
- Customer & supplier audits. If a customer is undergoing a sales tax audit and your invoice is selected, the customer or the auditor may contact you to ask if you have an exemption certificate on file. How you respond may result in a referral for a sales tax audit of your business! So, be sure you have completed and up-to-date exemption certificates for all your customers! If a supplier is under audit and the auditor sees an exemption certificate provided for something they think is clearly taxable, you may be flagged for an audit.
- Prior audits resulting in taxes owed. This is a no-brainer: if you have been audited previously by the state and owed a significant amount, they will generally come back for a re-audit to determine whether your internal processes have improved.
- Failure to charge correct tax on freight or fuel surcharges. Freight and fuel taxes can be confusing, since taxation of freight and other invoice charges may vary by state. Vendors in states that do not tax freight may have accounting systems set up based on their home state rules. Therefore, if they are registered in other states, the tax calculation may not be computed properly.
Above, we listed 5 key items that may flag you for a sales tax audit. To make sure your business is prepared, it is important (of course) to have good records to support your numbers. It is also good practice to have a documented procedure for when you add new customers and suppliers, to ensure you are collecting and reporting the proper taxes when you file.
If you have any questions on sales tax or if you would like to be better organized with your records, please contact us!