HOW TO FIGHT A FLORIDA SALES TAX AUDIT

HOW TO FIGHT A FLORIDA SALES TAX AUDIT

If you have been notified by the Florida Department of Revenue that you are being audited for sales and or use tax, it is important to know how and when to contest the assessment. Contrary to what you might think, there are numerous ways to contest the audit without having to actually go to court. Instead, we first try to resolve the matter first within the Department of Revenue. The first step in contesting an audit is understanding what stage of the audit process you are in. Below is a very detailed discussion of the audit process with advice on what to do and, more importantly, what not to do during your Florida sales tax audit.

Notice of Intent to Audit Books and Records

The scenario usually starts like this: You get a random phone call from someone claiming to be from the Department of Revenue saying you have been selected for a sales tax audit. It will feel like a scam, but this is a real sales tax auditor just double checking to make sure your business is still open before starting the audit. Then you will receive a letter in the mail entitled “Notice of Intent to Audit Books and Records,” known as Form DR-840. This letter serves to notify you of the audit’s commencement, identify the audit period and the taxes to be examined, and request certain documents to be presented. After sending this notice, the Department must wait 60 days before actually reviewing records or discussing the audit with you, unless you waive that waiting period.

During this 60 day period, it is very important to review your records and procedures to see your areas of exposure. Far too many business owners make the presumption that they are doing everything right, that they handle sales tax like everyone else, that they are doing it just like the prior owner did, or even that they called the DOR and were told what to tax and not tax. We have clients come to us with horror stories of how sure they were in their processes only to have ridiculously high assessments at the end of audit because they got bad advice from someone and the company had been handling sales tax wrong for many years. Not taking this 60 day period to talk to someone who really knows Florida sales tax to look for areas you might be doing things wrong can be very, very costly in an audit. A few common areas of concern that tend to come up during a sales tax audit:

Does your company have any exempt sales? Does your company have the right paperwork to prove the exempt nature of each sale?
Does your company have out of state sales and, if so, do you have ALL the shipping documents tied to each sale to prove it is not a Florida sale?
Do you take deposits on sales? Are you collecting 100% of the tax on the full sales price when the deposit becomes non-refundable?
Are you handling sales tax on the accrual basis (e.g. tax is due when the invoice is issued, not when paid)?
Is your company charging sales tax rate based on the destination of the goods versus where your company is located?
Are you charging sales tax on full sales price of the good or just the materials portion of the sales price?
Are you charging Florida sales tax on the shipping cost charged to your customer?
Are you charging sales tax on the credit card fees charged to your customer?
Are you manufacturing goods that you are installing in real property? If so, then are you remitting (not charging) sales tax on the manufacturing labor?
Are you still reporting your wholesale sales and keeping the resale certificates from all your wholesale customers?
Are your gross sales on your federal income tax return reported correctly? Overstated gross sales on your federal income tax return can result in presumed additional taxable sales in your sales tax audit.
Do you have independent contractors that operate inside your business and pay a portion of what the receive from customers to your company (splitting profits)?
Do you properly use your accounting system to accurately track sales or do you use the system to create estimates, sales invoices, revised sales invoices, etc such that the gross sales number in your accounting system is a substantially overstated?
Do you deposit funds into your business bank account that are not from sales?

Another thing that business owners often fail to realize going into their first sales tax audit is that sales tax auditors will not only be reviewing all sales, but they will also audit all purchases by your company during the 3 year audit period. So, if your company has $10 million in annual sales and $9 million is expenses ($1 million dollar profit), the auditor will also want to see proof that all $9 million dollars in expenses were properly taxed. If you can’t provide proof that taxes were properly paid, then the auditor has the authority to tax your company on the expenses, even if your company correctly paid sales tax. It comes down to whether you have the documentation to prove taxes were paid properly. For a company with $9 million in annual expenses assuming a 7% sales tax rate, that is $630,000 in potential sales tax exposure PER YEAR or $1.89 million of tax exposure for a three-year sales tax audit (almost 2 years of profit). Most companies do a good job of paying sales tax on their expenses, but don’t realize the importance of keeping documentation to prove sales tax was paid. A few things auditors will review on the expense side of your business:

Did you pay sales tax on any rent to a landlord? What about CAM charges?
If your land/building are owned by a related entity, did the operating entity under audit pay the property taxes or mortgage on behalf of the landlord (taxable rent)?
Did your company buy assets during the audit period (they will review the depreciation schedule on your federal income tax returns)?
Does your company utilize a cleaning company?
Does your company pay for security services?
Do you have records to prove you paid sales tax on company supplies, company meals, repairs on vehicles or equipment?
If your company does real property improvements, then did your company pay sales tax on the materials portion of cost of goods sold? What about manufacturing labor?
Did your company do significant real property improvements to a building owned by your landlord?
Did you import goods from another state or another country such that the seller didn’t charge you Florida sales tax? Do you have a process in place to catch these transactions to properly pay use tax to Florida?

After the 60 Day Period

After the 60 day period, the sales tax auditor will begin the actual audit review process. In fact, you will likely find the auditor is rather insistent to start the audit process immediately after the 60 day mark. This may begin with what is known as an “opening interview” in which an auditor conferences with you or your Power of Attorney to discuss the audit. At this time, the audit is in the initial “discovery” phase where information is being gathered and reviewed, and the auditor is starting to formulate what your company has been doing wrong and how much the assessment might be. Though there is not an opportunity to directly contest the ongoing assessment or any calculations at this point, it is important to respond with proper knowledge and often defensively. More importantly, you don’t want to say something that will highlight a problem area or send the auditor on a wild goose chase that you’ll end up having to defend later in the audit. Given that sales tax auditors have extraordinary powers to estimate taxes on your company, saying the wrong thing to a sales tax auditor can turn into a tumultuous slippery slope. You want to avoid as many land mines as you can by knowing the consequences of what you say AND what you give the auditor.

The Department will send you an extensive checklist of typical records to be provided, including documents such as your federal income tax returns, bank statements, payroll records, general ledgers, etc. Though many Taxpayers may panic, seeing this as a demand to produce all of the listed items, it is best to take a step back and try to understand the bigger picture. To set the audit assessment up in the best way, it’s imperative to provide only what the Department of Revenue auditor really needs, and avoid oversharing. Working with an attorney that really knows Florida sales tax can help you understand what transactions the Department is actually looking to review, and help you choose which records can show those most simply. Florida’s sales tax auditors all too often use a “throw everything against the wall to see what sticks” approach to audits. If you just hand over everything requested expecting the auditor to fairly review your information to help you come up with a reasonable tax assessment, then you better be sitting down when the first estimated audit assessment arrives via email.

It's imperative to approach this stage strategically to avoid oversharing of information and having more issues to contest at the following stages. This is because, contrary to the American legal principle of “innocent until proven guilty” the Florida Department of Revenue has the legal authority to treat revenue as taxable until proven not (i.e. guilty until proven innocent). Therefore, providing documents showing more income than reported on your sales tax returns could lead to an assumption of underreported taxable sales. Worse yet, the auditor could presume your company has been intentionally under reporting sales tax and turn the case over to a criminal investigator. This is no joke. The state of Florida arrests hundreds of business owners every year for sales tax fraud. So please, take the audit seriously from day one.

Estimating Techniques

You should be prepared for the sales tax auditor to use what might be surprising techniques to estimate your sales tax assessment. The most common estimating techniques are discussed below:

The most common method is to select three random sample months during the audit period to review all sales and expenses. The auditor will then calculate an error ratio based on the mistakes they believe they find. So, if the auditor determines you are 10% under reported during the three-month sample period, then the auditor will determine that your company under reported 10% during the entire 36-month audit period. So, a $2,000 issue during the three-month audit sample period becomes a $24,000 part of the estimated assessment for the full audit period. Fighting what might be relatively small items during the sampling period can have a rather significant effect on the overall assessment. Also, you should note that you DO NOT HAVE TO SIGN THE SAMPLING AGREEMENT. If you sign it, then you can’t argue later that the sample was not reasonable. The auditor will use the sample period whether you sign it or not, but you want to have the ability to assert later that the sample periods chosen where not reasonable.

The sales tax auditor will also try to review both your federal income tax returns and your bank statements for the audit period. If either the gross sales on your federal income tax returns OR gross deposits in your bank accounts exceed the gross sales reported on your Florida sales tax returns, then auditor will presume you have unreported sales and tax the difference as taxable sales. You will have the burden to prove the additional income or deposits were not taxable sales. If you can’t prove it, then the DOR will collect the tax on the estimated additional sales. It is usually wise to give either the bank statements OR the federal income tax returns. The auditor really only needs one to have documentation to confirm sales. So, you need to take the time to review this information carefully BEFORE deciding what to give the auditor.

In the last few years, the Florida Department of Revenue has been getting the 1099-K reports from credit card companies, which show the month-by-month credit card sales your company has been making. These 1099-K audits have been highly effective at ferreting out companies that have not been reporting their sales accurately. Industries like auto mechanics, restaurants, and retail stores have been heavily targeted for the last few years using the 1099-K as the basis for the audit assessments (or criminal investigations).

If a company does not provide any records, then the Department of Revenue has the authority to estimate the company’s sales based on industry averages. So, if a new company is struggling to get revenue going, but the average company in your industry does $15 million in sales a year, the Department of Revenue auditors have the legal authority to estimate your sales based off $15 million a year. The burden is then placed on your company to prove what the right numbers should be. If you can’t then the assessment based on $15 million becomes the real, final assessment. So, it is rather important to give at least some records during an audit to avoid an industry average estimated assessment. Just chose which records wisely.

Have your records been damaged or destroyed? In a hurricane prone state like Florida, this is not uncommon. Even if all of your paper records have been destroyed, a company can usually reconstruct a lot of the records from bank statements, federal tax returns, 1099-ks, and even going to major customers to get proof of taxable (and exempt) sales. A sales tax audit with destroyed records will not be easy, but it is manageable with proper planning and an understanding of what the auditor is really looking for.

Notice of Intent to Make Audit Changes

After the Florida Department of Revenue auditor completes their review of documents, they will send a Notice of Intent to Make Audit Changes (Form DR-1215), which summarizes the audit findings. In this letter, you will be able to see the total amount of tax, interest, and penalties being assessed, as well as the workpapers that explain how these items were calculated. The assessment will be broken down into A Exhibits and B Exhibits. The A Exhibits focus on taxes on your company’s sales while the B Exhibits focus on your company’s purchases. There will be detailed explanations for each exhibit that will give you insight into why the auditor thought tax should be due and, usually, good line by line detail of what was taxed.

Note that, despite statements the auditor may make, you do not have to sign the Notice of Intent to Make Audit Changes. It only benefits the Florida Department of Revenue for you to sign this document. After receiving this notice, you have 30 days to notify the auditor of any disagreement you may have with their calculations. By signing the Notice of Intend to Make Audit Changes, you are waiving any right to further challenge the audit assessment at the audit level.

Known as the DR-1215 Audit Conference, this is your first informal opportunity to express disagreement with the audit. You may do so in a few ways, neither of which waives your right to protest later. First, you may request an audit conference with the auditor’s supervisor to discuss the discrepancies and work towards resolution. Alternatively, you could draft a response letter detailing your concerns, and provide any documentation that would support a revision. Nevertheless, it is still imperative that you provide only records that would warrant a revision and do not uncover additional issues. Our attorneys have experience responding to Notices of Intent to Make Audit Changes in both formats, as well as standing relationships with the auditors to help navigate you through this process.

After conferring or reviewing your response, the auditor may issue a revised Notice of Intent to Make Audit Changes, which should show revisions based on the documents provided. This could result in an increase or a decrease in the amounts allegedly owed. The audit team will usually only hold one DR-1215 conference and make revisions a single time at the audit level. So make sure you are fully prepared when you send your challenge or hold a conference.

Know that this may be a time in which you can reasonably negotiate with the auditor to come to an amendable resolution. Although you likely cannot negotiate the amount of tax that has been calculated due without stark proof of error, you may be able to get a reduction of the associated penalties if the error or nonpayment was within reason. Of course, this is up to the auditor’s and supervisor’s discretion.

If you really need more time to come up with records, the auditors are authorized to extend the statute of limitations for the audit by having both an officer of your company and the audit supervisor sign a Form DR-872 Extension to the Statute of Limitations. Whether the Department’s audit team wants to extend the statute of limitations is a discretionary call on their part. Many auditors tend to not want to extend the audit because they are rated on how efficiently they complete the audits. An extended audit will, by definition, take more time, hurt their rating for the audit, and effect their raises and promotions. But we can usually talk the supervisors into signing a DR-872 if additional time is really warranted.

Notice of Proposed Assessment

After the thirty days to request a conference have passed, the audit file will be sent to Tallahassee to have the Notice of Proposed Assessment issued. This provides you with the total amount due broken out as tax, penalties, and interest as well as instructions on either how to pay or to file a formal or informal protest. An informal protest seeks resolution outside of the judicial process. Alternatively, you may choose to wait 60 days for the Notice of Proposed Assessment becomes a final assessment, and then take the case through litigation in the circuit court, district court, or Division of Administrative Hearings (DOAH).

Informal Protest

You have sixty days from the Notice of Proposed Assessment to file an informal protest. Though there is an opportunity to file for a 30-day extension of time to submit the protest, your request must be received within the same sixty days. A second request for extension may be made within the following thirty days. The protest or a request for extension may be done by you yourself or by your representative, whether that be a CPA or an attorney. Filing an informal protest does not preclude you from subsequently filing in court or DOAH.

We cannot stress enough paying attention to these deadlines. You miss the 60 day deadline to file a protest and your protest rights are GONE. Miss the 120 day period to file a formal protest through a Chapter 120 hearing and all your challenge rights are GONE. Do NOT miss your opportunity to challenge the assessment!

The requirements of an informal protest are laid out in Rule 12-6.003(2)(a) of the Florida Administrative Code. These include:

The taxpayer’s name, address, telephone number, federal taxpayer identifying number, and audit number.
The tax type, the periods, and the dollar amount of tax, interest, or penalty protested.
A list of the unagreed items.
A statement of facts and a description of any additional information not previously available that supports the list of unagreed items.
A statement explaining the law or other authority on which the taxpayer’s position is based.
A copy of the Assessment.
A statement whether oral presentation and argument are requested.

The informal protest is a time to contest the audit calculations, the data utilized in the assessment, as well as any procedural mishaps that took place during the audit process. Also at this time, you may include your argument and reasoning for penalty and interest abatement. As before, it is still imperative that you provide only records that would warrant a revision and do not expose additional income or other taxable transactions.

After submitting an informal protest you will find yourself with the first opportunity to confer with a representative who is not the auditor or their supervisor. Instead, a conferee from the Technical Assistance Dispute Resolution (TADR) division will reach out after the protest is filed to discuss the matter, though their response time may take months. Although this person is still employed by the same governmental agency – the Florida Department of Revenue – they are able to weigh the merits of settling or litigating the matter, as opposed to the auditor, who is often most focused on assessing the true amount of tax and penalties that are statutorily due. Due to the volume of audits our office handles, we have working relationships with most conferees and can help you navigate this discussion. In fact, most of our attorneys do nothing but represent businesses just like yours who want to fight back against Florida sales tax audit assessments. This is our niche, and we are here to help, if you need it.

Notice of Decision

After you have provided all your additional records and made your arguments to the “conferee” (the title for the Department agent that handles protests), the Department of Revenue will issue a Notice of Decision within a few weeks. This notice will either reduce the assessment, sustain the original assessment, or offer a closing agreement, which functions like a compromise.

Upon receiving the Notice of Decision, there is still opportunity to contest the audit. You have thirty days to file a Petition for Reconsideration. Like the informal protest process, this seeks resolution within the Department of Revenue, and must contain additional facts from the initial informal protest. This operates to give you the opportunity for one more bite at the apple in resolving the issue at the Department level. Here, there is no opportunity for a thirty-day extension. Also note, when you file a Petition for Reconsideration, the same conferee that handled your protest will usually be assigned to handle your Petition for Reconsideration.

A TADR conferee will be assigned, and you will again have the opportunity to discuss the merits of your petition. The same precautions should be had during this process. After all is said and done, a Notice of Reconsideration will be issued to reduce the assessment, sustain the original assessment, or offer a closing agreement. This is the final contest-able notice to be issued by the Department.

Formal Challenge in Chapter 120 Hearing

After the Notice of Decision or Notice of Reconsideration, the last opportunity you have to contest the audit is by filing a petition for litigation or appeal in either the circuit court or Chapter 120 hearing before the Department of Administrative Hearings (DOAH). This is a more formal process, literally filing a lawsuit against the state of Florida. We usually recommend going to route of the Chapter 120 hearing because you only have to pay what you reasonably believe you owe in this venue versus a challenge in circuit court requires you pay 100% of the assessment before the court can have jurisdiction. Whichever route you take, it is highly recommended to have an attorney for this process. You often have the opportunity to settle cases at this level without the penalties and interest, which can be a huge savings for most companies.

If you are looking for a law firm that knows this area of law and how to file a formal appeal to your Florida sales tax assessment, then you should know our law firm files more than one Chapter 120 hearing against the state of Florida every week. If fact, a significant amount of our attorneys used to work for the Florida Department of Revenue. We are here to help if you need it and have a very liberal free initial consultation to discuss your case that you should take advantage of either way.

Bankruptcy / Walk Away from Company?

One of the most common questions we get from owners of companies that are facing large sales tax assessments is whether they can simply shut down the company or file bankruptcy to avoid the assessment. First of all, sales tax is one of the few things that are not dischargeable in bankruptcy. Second, the Department of Revenue has faced many decades of business owns trying to walk away from sales tax liabilities. Every time a business owner has really pulled the wool over the Department on a case, the Department goes to the legislature to give themselves new powers to go after other business owners that try something similar. After over 50 years of sales tax in Florida, you can imagine the Department has a LOT of powers to use against people that try to walk away from businesses. One major power is sec. 213.29, F.S., that allows the Department to impose a 200% of tax penalty against each responsible person individually. Another power at the Department’s discretion is to file criminal charges if there are collected but not remitted taxes in the assessment with a 5 year statute of limitations (longer than the 3 year audit period). The Department can go after anyone that buys the business or the assets under Transferee Liability statutes, which opens the seller to civil liability to the buyer. Finally, the Department can make it very difficult to open any other business that has to collect sales tax. In most cases, walking away from an assessment, even a ridiculous over estimated assessment, does not make sense for most business owners. But, it is always worthy for a free initial consultation on your specific situation where your situation is different.

About the Author: James Sutton is a Florida licensed CPA and attorney as well as a partner in Moffa, Sutton, & Donnini, PA. Mr. Sutton is charge of the Tampa office of the firm and practices almost exclusively in the area of Florida Sales & Use Tax Controversy. Mr. Sutton handles audits, protest, litigation, criminal cases, revocations, collections, and consulting engagements all in the area of sales tax. Mr. Sutton is an active member in the FICPA, AICPA, AAA-CPA, and FIADA. Mr. Sutton is also the State and Local Tax Chairman for the AAA-CPA and past president of the Florida AAA-CPA. For 2022 to 2024, Mr Sutton was the Chairman for the State Tax Committee for the FICPA. Otherwise, you can learn more about Mr. Sutton in his firm bio HERE and you call call him directly at 813-775-2131.

Jackie Mustian is an associate attorney who joined the Law Offices of Moffa, Sutton, & Donnini, P.A. in 2023. She focuses her practice on both Florida and multi-state taxes, with an emphasis on sales and use tax, but conducts research regarding other state tax policies nation-wide. Jackie assists in Florida sales tax controversy from protests through litigation. You can read more about Jackie in her BIO.

About the Firm: At the Law Office of Moffa, Sutton, & Donnini, PA, our primary practice area is Florida taxes, with a very heavy emphasis in Florida sales and use tax. We have defended Florida businesses against the Florida Department of Revenue since 1991 and have over 100 years of cumulative sales tax experience within our firm. Our partners are both CPAs/Accountants and Attorneys, so we understand both the accounting side of the situation as well as the legal side. We even have former sales tax auditors on staff. We represent taxpayers and business owners from the entire state of Florida. Contact us for a FREE INITIAL CONSULTATION to confidentially discuss how we can help put this nightmare behind you.

AUTHORITY

Fla. Stat. 212.13 – Records required to be kept; power to inspect; audit procedures

ADDITIONAL RESOURCES

FLORIDA SALES TAX AUDITS PROCESS AND TRAPS, published March 4, 2023, by David Brennan, Esq.

FLORIDA SALES TAX INFORMAL WRITTEN PROTEST, published November 17, 2018, by James Sutton, CPA, Esq.

FL Sales tax audit – From Audit Notice (DR-840) to NOPA, published September 17, 2023, by Matthew Parker, Esq.

FLORIDA SALES TAX CONVENIENCE STORE AUDITOR TACTICS, published July 17, 2024, by David Brennan, Esq.

DON’T HIRE AN IRS ATTORNEY FOR SALES TAX PROBLEMS!, published July 17, 2024, by James Sutton, CPA, Esq.

FL SALES TAX AUDITS – AUDITING YOURSELF BEFORE A STATE DOES, published October 23, 2023, by Matthew Parker, Esq.

CABINET COMPANEIS WITH FLORIDA SALES TAX PROBLEMS, published October 5, 2013, by James Sutton, CPA, Esq. and Gerald Donnini, Esq.

FL TAX ALERT – 200% PENALTY STINGS BUSINESS OWNER, published March 24, 2013, by James Sutton, CPA, Esq, and Gerald Donnini, Esq.