Ohio Department of Taxation Sales Tax Audits: Steps to Take If the Agent Finds a Discrepancy Between Taxpayer's Purchase Invoices and Actual Sales Records
In recent years, the Ohio Department of Taxation has been targeting bars and restaurants for sales tax audits to ensure compliance with sales and use tax obligations. Given the potential sales tax revenue at stake in the liquor industry, and the fact that most establishments have a high percentage of cash transactions, it should come as no surprise that the Department is focusing its attention on bars and restaurants.
As discussed in our previous articled, Ohio Department of Taxation Sales Tax Audits: Preemptive Steps a Bar or Restaurant Can Take to Counter Inflated Liability Resulting From the Markup Analysis, during a sales tax audit, the Department will typically do a “test-check” of the taxpayer’s sales records (i.e., receipts and other records from the taxpayer’s POS system documenting all taxable and non-taxable sales); whereby the auditing agent will compare sales records from a specific period of time to the taxpayer’s purchase invoices for the same period. This method of checking to see whether the taxpayer has reported all taxable sales assumes that everything the taxpayer purchased was ultimately sold. As any bar or restaurant owner knows, this is very rarely the case. In the article mentioned above, we listed various preemptive actions that a bar or restaurant can take to help explain a discrepancy between the total purchases reflected on the purchase invoices and the taxpayer’s actual sales. But, in many instances, the taxpayer that is being audited has failed to take the appropriate preemptive measures, and instead finds itself with a large inexplicable discrepancy between the purchase invoices and its sales records. This will result in the Department estimating taxable sales and liability by applying a mark-up percentage to the taxpayer’s purchase invoices. This will almost certainly be an inflated number.
After applying the “mark-up” analysis, the Department will issue a Form ST-807, Summary for Recommending Assessment, which reflects the preliminary results of the audit recommended by the auditing agent. The taxpayer will have 30 days to review and respond to the preliminary proposed audit results by pointing out any errors, providing any new and pertinent information, and objecting to or agreeing with the proposing findings. If a taxpayer finds itself in a situation where sales records do not match its purchase invoices, there are a few steps the taxpayer can take in an attempt to explain the discrepancy and convince the agent to adjust its preliminary findings.
Non-Exhaustive List of Steps a Taxpayer Can Take To Explain
the Discrepancy Between Purchase Records and Sales Records
1. Scrutinize Purchase Invoices for Added Charges. In calculating the mark-up of the taxpayer’s purchases, the auditing agent may simply rely on the total invoiced amount. But, oftentimes the purchase invoices will contain other charges from the vendors that are not amounts paid directly for the goods, and should not be included in the figures used by the Department in its “test-check.” For example, sometimes invoices will contain “split-case” charges when the taxpayer orders only a partial case of wine or other alcoholic beverage. These additional charges could add up quickly and help explain the difference between the purchase figures and the taxpayer’s sales figures. Another added charge that is often seen on invoices is a delivery charge or gas charge. Again, charges like these should be subtracted from the total purchase amount used by the agent.
2. Insist on Using Actual Invoices Instead of Purchase Summaries. In some cases, the Department has the ability to obtain a summary of the taxpayer’s purchases directly from the vendors. In the event the agent uses the summary information for purposes of conducting its “test-check,” the taxpayer should insist on using the actual invoices, as the summaries may not provide the full picture. For instance, the summaries may not reflect items that were returned by the taxpayer, or they may not categorize the additional charges discussed above.
3. Check Invoices Against Banking Information. The taxpayer should also check the purchase invoices against its check ledger and banking information to ensure the accuracy of the invoices that the agent is using for the “test-check.” If there is a discrepancy, the taxpayer should bring this to the agent’s attention and provide the supporting evidence that the invoice is inaccurate.
4. Provide Records of Theft and Other Loss to Inventory. In our previous article, which can be viewed here, we stressed the importance of tracking inventory and filing police reports for any suspected thefts. The reason for this is to ensure that the taxpayer can help explain a discrepancy between its purchases and its sales. The Department will likely adjust its figures to account for theft if the taxpayer is able to provide police reports documenting the theft. While it is good practice for the bar or restaurant to keep track of losses to inventory on its own, the Department is unlikely to accept such records as proof of theft if no police report was filed.
Being able to explain a discrepancy between the taxpayer’s purchases and its sales could mean the difference between the imposition of a significant sales tax assessment, versus a finding by the Department that the taxpayer has reported all taxable sales. If you are the owner of a bar or restaurant and you are facing a sales tax audit by the Ohio Department of Taxation, you should contact one of the experienced tax lawyers at Nardone Law Group, LLC. We have vast experience representing bars and restaurants in sales tax audits, examinations, and litigation with the Ohio Department of Taxation. Contact us today for a consultation.