Is a state, or are multiple states, auditing your business? Sometimes, answering even this first question is difficult based upon your initial correspondence from the state. Unfortunately, however ambiguous their notice may be, it likely triggers a strict timeline for both taxpayers and the state to conduct an audit. It is vital for taxpayers to act immediately upon receiving communications from the state regarding their state and local tax remittance to preserve the rights they are entitled to.
Audits in one state may potentially trigger audits in neighboring states. While states are not required to rely on out-of-state audit results, the outcome of one audit may serve as some support in a subsequent audit on the same issue in another jurisdiction. Audits in multiple states, even on the same issue, are handled very differently state to state. A thorough understanding of each state’s audit procedures is required along with a larger understanding of where a particular tax issue fits in the national scheme.
What is a Taxpayer Bill of Rights?
Most states have explicit rights provided to Taxpayers which may be invoked during and after an audit. These rights vary, but generally provide for transparency and access to information during an audit and the right to contest an audit informally within the acting agency. Such rights may also include access to payment plans and waivers of penalties and interest in certain cases. Not only do Taxpayer Bills of Rights provide certain benefits during an audit, but any violations of these rights by the state may also jeopardize the validity of an audit itself. In short, the denial of certain rights may give rise to a challenge that an entire assessment is invalid.
What is a Statute of Limitation?
Statutes of Limitation provide limitations on how far back in time an audit can go to assess tax. In some cases, such as fraud, or if a taxpayer has never been registered with a state, there is no limitation and the state can audit all the way back to the very beginning of a business. However, in other cases, the state can be limited to as little as three years. These limitations vary from state to state, but one thing is for certain: a violation of these statutes is a huge misstep by the state and ripe for challenge by an affected taxpayer. It is easy for taxpayers to get lost in the weeds of an audit and miss a statute of limitations violation. In other cases, the statute itself may prove ambiguous when applied to your case. It is in every case, however, that these statutes address the scope of an audit and consequently the scope of liability your business may be facing.
What types of audits are there?
Audits can come in a variety of forms. Sometimes, an auditor will want to conduct a field audit. A field audit is an audit that takes place at the taxpayer’s location. The auditor will likely want to do a walk-through of the premises and will certainly want to look through the taxpayer’s digital and hardcopy records. Alternatively, the taxpayer may receive a desk audit. A desk audit occurs at the auditor’s desk without any visit, and sometimes without even any contact, with the taxpayer. These often are initiated by third-party reports, or are conducted based on estimations made from prior returns.
Audits are full of procedural technicalities that are best handled by a professional. Whether it is understanding taxpayer rights, statutes of limitation, or the various methodologies used in different states to calculate or estimate an amount of tax due, your team at MSD is sure to have the comprehensive knowledge and experience necessary to properly defend your case.
Tax Assessment Challenges
Once an audit is finalized and the amount of tax due is fixed, most states provide for a short window of time to contest the assessment informally within the taxing agency. Such challenges are typically faster and cheaper than filing immediately in court, and provide a unique opportunity to either (1) resolve a case before incurring the costs of formal litigation or (2) lay the groundwork to present the strongest case possible down the road when in litigation. Often, the taxing agency is motivated to settle cases to avoid their own cost of litigation and the risk of unfavorable precedent in the courts.
Multistate businesses may find that the informal tax assessment challenges have varying procedures across states. The length of the process, and the rights and privileges available through it can certainly differ. Competent council will be familiar with the often complex procedures for navigating these challenges and the right approaches for obtaining the best result within a particular taxing agency.
What is the difference between litigation vs. an informal assessment challenge?
The differences between the two are substantial. To start, litigation allows for an impartial judge to rule on a case whereas an informal assessment challenge is performed through the agency itself. In short, the state still has the final say. It is an understandable concern that the state will simply uphold its own assessment, and sometimes that is the case, but informal protests generally take the case out of the hands of an auditor and into the hands of an attorney. Agency attorneys will address at this stage, often for the first time, legal challenges that an auditor is not trained to deal with. Agency attorneys will have a better understanding than auditors of where your case fits in the legal spectrum and also have authority to settle cases. An informal assessment challenge, if available, can be a great option for taxpayers to get the Department to reevaluate your case at a higher level. However, these informal assessment challenges are often only available for a short window after an assessment is issued, so it is vital for taxpayers to pay attention to these dates and contact qualified counsel immediately.
If I informally challenge an assessment, can I still bring the case to court at a later date?
Absolutely. In fact, many cases are strategically put through the informal challenge process to lay the groundwork for a stronger case in court. The higher the dollar amount and the more complex the issue, the less likely that a case will be resolved through an informal challenge within the agency. However, that does not mean such informal challenges are useless for a high dollar amount case. In many cases, it is quite the opposite, as the informal protest process may allow for a taxpayer to provide additional documentation and result in the Department issuing formal rulings that can provide additional challenges down the road.
In many cases, taxpayers are left with no option but to bring their case to court. Often, the decision to file in court comes after months, or years, of working internally with a taxing agency through an audit and informal protest to contest an assessment. In other cases, the best option in a case is to file directly in court. Litigation against the government can seem overwhelmingly intimidating, particularly when your business’s financial security is potentially at stake. However, an experienced team can guide you through and help you to make the best decisions for you and your business.
Multistate businesses may find that litigation in one state creates a domino effect, resulting in litigation on substantially similar issues in other states as well. Even if the underlying tax issue is the same, the applicable statutes, rules, and case law may vary from state to state, resulting in dramatically disparate approaches to litigation in different jurisdictions.
There are usually at least two places to bring an action to court. While litigation options vary from state to state, most have the option of bringing tax cases either to administrative court or circuit court. Both options provide an impartial judge, but there are important differences between the two.
What are the main differences between administrative court and circuit court?
Again, this varies state to state. However, generally speaking, the cost of bringing a case to court can be different between administrative and circuit court. For example, many circuit courts require taxpayers to pay the entire assessment before challenging it in court. Meanwhile, administrative courts may require only the uncontested amount to be paid to enter court.
The other main difference between the two is the finality of a ruling. An administrative law judge may be overturned by the taxing agency in certain circumstances, while a circuit court judge may not. In both cases, either the taxpayer or the agency can appeal the final ruling.
Finally, some states have their own state tax court, available exclusively for tax cases. Tax case procedures vary state to state.
Do all tax cases go to trial?
The vast majority of tax cases do not go to trial. Typically, either the Department or the taxpayer will initiate settlement proceedings at some point during the pre-trial process.
How long does the litigation process take?
The litigation process varies in length. Generally speaking, it can take between several months and a couple years until the case is complete. However, there are always exceptions to the rule. The length of litigation depends on the complexity of a case, the resources of the state, and often times even the intent of the client.
Tax litigation is technical and complex, requiring an experienced team to guide you through to the best outcome possible. Your team at MSD is dedicated to providing the highest level defense of your case as it navigates through the litigation process. Whether your case is resolved in the administrative or circuit courts, or requires appeal all the way to the state supreme court, we are here to guide you through each step of the process as we work to give your case the strongest chance we can for the best possible outcome.
Sometimes a taxpayer does not realize they were under audit until the audit is far past complete. In these cases, the taxpayer may only find out upon realizing their bank account was frozen. This occurs when a case has gone past audit and is now in collections. Other times, a taxpayer is fully aware of an audit but suddenly encounters problems after the fact during enforcement.
Collections can be an intimidating division of a taxing agency. By the time a case is in collections, it is likely that many of a taxpayer’s rights to challenge an underlying assessment have expired. With the law on their side, collectors can be aggressive and demanding in their approach to obtaining the balance of an assessment as quickly as possible.
Adding to the challenge is the multijurisdictional aspect to it. If your business has a large number of locations across a state, you could be facing different collections issues at different service centers despite the origination of the underlying balance being from a single audit. Compliance can be difficult too when a taxpayer has entered collections in several states, all of which have different rules and procedures.
Regardless of how a taxpayer finds themselves in collections, one thing is for certain: a misstep in the collections process can have devastating effects on a business. Whether a taxpayer is looking to reopen a case in collections or resolve an outstating liability as efficiently and effectively as possible, it is vital to navigate the process with competent and experienced counsel.
It is a bittersweet moment for taxpayers when they realize they have overpaid tax to the state. Perhaps it was because they erroneously applied one state’s tax laws to a neighboring state. Alternatively, the taxpayer may have simply missed a narrow exemption buried deep in the applicable statute. Regardless of how a taxpayer came to overpay tax in the first place, it is a relief to realize there is opportunity to get it back. The reality, unfortunately, can be quite disappointing. States will fight vehemently over refunds, particularly when they are for a high dollar amount.
Can refunds be settled like traditional assessment cases?
Refund cases are generally not “all or nothing” cases. For example, the Department may prorate the refund based on factors like square footage. Alternatively, the taxing agency may offer a compromise by refunding tax for only a portion of the refund period. While “all or nothing” refund cases certainly do exist, that is not always a taxpayer’s only anticipate result.
Do the statutes of limitations apply to refund cases?
Yes. In many states, the statute of limitations for a refund is shorter than for an assessment case. For example, while the Department can go back five years to conduct an audit, a refund applicant might only be able to apply for repayment of taxes going back three years. Each month a taxpayer waits to file a refund, they may lose one month of refunded tax from the beginning of the period. Therefore, it is important to start the process as quickly as possible to maximize refund opportunity.
Filing for refunds across several states can be complex due to varying statutes of limitations, sales tax laws and rules, and applicable case law. The same exact refund case may be successful in one state while unsuccessful in another. It is important for taxpayers to have professionals identify the areas with the highest refund potential and act quickly to preserve refund rights while they are available. A professional team experienced in both assessment challenges and refund cases will work together to craft a case that gives the taxpayer their best chance at obtaining their tax refund in the particular jurisdictions they are filing within.
In some industries, the state laws haven’t caught up to the technology your business hinges upon and you are left uncertain as to the taxable status of your sales, or even purchases, based on the information available by the state. In other circumstances, a complex transaction appears right on the line between exempt and taxable. When a business is unsure whether its practices are creating an exposure to a potential tax liability, the best option may be to seek technical guidance directly from state agencies.
What is a technical guidance?
A technical guidance is a determination, made by the taxing authority, of the taxable status of a transaction, or set of transactions, based on the particular facts of the transactions as provided by the taxpayer.
Can a technical guidance be requested anonymously?
Some states allow for an anonymous technical guidance. These determinations often do not carry the same weight as one in which the taxpayer’s identity is revealed and, in some cases, may not be relied upon by the taxpayer. However, the benefit of an anonymous technical guidance is for a taxpayer to see the Department’s position on an issue before revealing the identity of the taxpayer. Should the determination be favorable, the taxpayer can then seek to formalize it with a request for technical guidance that reveals the business identity.
When a business has discovered that the taxability of their sales is questionable across varying states, the safest thing to do may be to seek technical guidance directly from the taxing authority. In many cases, these guidance requests require a legal analysis and documentation that could potentially expose a business’s unforeseen liabilities to the very agency that has the authority to initiate an audit. Therefore, it is important to approach them carefully and with competent council familiar with the procedures for requesting guidance and consequences of revealing particular facts, records, or identifying information.
After years of operation, a business may come to find on accident that they have been erroneously handling their state and local taxes all along. The potentially devastating tax liability exposure that follows this realization can weigh heavily on business owners. Owners may furthermore be rightfully concerned about changing policies going forward for fear of highlighting their prior error to the taxing authority. Not wanting to continue in their error but unwilling to expose their business to an audit, taxpayers may feel trapped.
Fortunately, most states offer voluntary disclosure programs that allow for businesses to begin proper collection and remittance of state and local taxes while limiting the look-back period to only a few years. While the taxpayer may be required to pay interest and penalty on taxes owed for previous years, the program prevents the taxing authority from initiating an audit for the state and local taxes at issue on any periods prior. When a business operates and owes tax in multiple jurisdictions, limiting the exposure is vital when the financial security of the business is at stake.
Are voluntary disclosures available for taxes collected but not remitted?
If a taxpayer has collected tax from customers but failed to remit it to the government, they have committed a crime. As a result, some voluntary disclosure programs do not cover tax collected but not remitted exposures. However, other states do allow for such taxpayers to enter the program when a penalty is paid. It is important to clearly understand a particular taxing jurisdiction’s policies before applying for the program, as the application itself exposes the taxpayer’s error to the same agency with the authority to initiate a criminal investigation.
The rules and privileges of voluntary disclosures vary from state to state, so it is important for taxpayers to have competent council to navigate the process. When multiple jurisdictions are involved, it may benefit taxpayers to prioritize voluntary disclosures based on the exposure in a particular jurisdiction along with the protections provided there. A misstep in the process may render a taxpayer ineligible for the program and expose a tax liability to the very same taxing agency that has authority to initiate an audit. An experienced legal team can help avoid such errors and establish a business with proper tax collection and remittance procedures going forward while also limiting exposure for past error.
As businesses grow, so do states’ jurisdictional reach. It is not always clear when the threshold has been reached for a state to have the authority to impose its state and local taxes on a business. Each state has its own set of rules for determining when a business’s presence within its borders allow for the imposition of tax, but an analysis of those rules in a vacuum is only the first step.
What exactly is nexus?
Nexus is a sufficient physical presence with a state. If your business has a sufficient physical presence with a particular state, that state may find that you have nexus. Nexus subjects a business to state and local taxes within the jurisdiction. It is possible for one business to have nexus with many states if they operate in multiple jurisdictions.
Many states have conflicting and overlapping rules regarding nexus, the sufficient level of contact with a state to subject a business to the state’s taxing authority. If two states have nexus with your business, they may both claim taxes owed for the very same transaction. As a result, a nexus study may prove helpful in making strategic business plans and determining the potential liabilities that may arise with business growth.
A nexus study can provide a business with the tools necessary to understand the tax consequences of various business interactions in different states. Whether the goal is to uncover and limit tax exposures, or to establish proper procedures from the start of a business, a nexus study can provide much needed answers on crucial jurisdictional issues. Your team of competent professionals at MSD will help guide you and your business through the complexity of varying nexus rules and procedures in each jurisdiction you have interactions with and recommend a plan of action going forward to keep your business on track for success.