Grocery and Convenience Stores: Why Sales Tax Audit? How to Prepare for it?

Arif D. MaknojiaCertified Public AccountantTelephone (713) 337-3100

Cell (832) 419-7502

Overview of Sales & Use Tax Audits

In today’s economy, states are increasing their audit efforts, particularly in the area of sales and use taxes. Audits are becoming increasingly more frequent and auditors are becoming more aggressive.

Understanding how to manage the audit process can save the company both time and money, and can assist in developing policies and procedures to address items before they become an issue.

Comptroller Criminal Investigation Division(CID)Rogelio Ramirez of South Texas arrested for

Sales Tax Fraud.He is charged with collecting but failing to

remit $100,000 or more in sales tax for calendar year 2008.

HB11 requires distributors of alcohol and tobacco products to report sales to retail outlets monthly, giving the auditors ability to compare distributors reports against reported taxable sales.

SALES TAX AUDIT ALERT

Putting some of the cash receipts in your pocket is a temptation many convenience store owners can't resist

The Texas Comptroller and IRS knows small business owners pocket cash and its computers check the reasonableness of Sales versus the Cost of Goods Sold

Too much cash is getting pocketed, the ratio of COGS/Sales will get high and the IRS computer will give the return a high “maybe we should audit this taxpayer” score.

WHY IS AN AUDIT ESTIMATED(AP92)

Lack of Below Records

Cash Register Tapes (Z-Tapes) do not match reported sales

Daily Sales Reports Not Complete

Monthly P & L’S Do Not Match Sales Reports

Missing Purchase Invoices

RECORDS AVAILABLE TO AUDITORS

Beer & Tobacco Purchases From Distributors

Lottery Ticket Sales

Food Stamp Sales

Inquiry Letter To Supplier

National Percentages For P-Mixes And Markups

AVG PRODUCT MIX(AP 92)

BEER 27%CIGARETTE 27%SODA 16%CANDY 9%OTHER TAX 6% TOTAL TAX 85%NON TAXABLE 15%TOTAL SALES 100%

AVERAGE CONVENIENCE STORE MARKUP % (AP 92)

Beer/Wine 127.67% Candy 184.09%Cigarettes 118.44%Chips/Snacks 150.17%Other Food Drinks 197.16%General Merch 156.57%Soft Drinks 159.21%

How to Calculate Markup & Gross Profit

State Uses Markup % to Determine An Audit

Sales Price = $100Purchase Price = $75Markup %= $100/$75 = 1.3333%Gross Profit % = ($100-$75)/$100= .25%

COST-MARKUP AUDIT

A markup method is the preferred method of

auditing grocery/convenience stores

when the records are unavailable, inadequate, or

unreliable.

AUDIT ESTIMATION METHOD

BEER, CIGARETTE AND SODA 70 % OF TOTAL SALES. 1/70% = 1.42 = Total Sales Beer Sales 30,000 Cig Sales 22,000 Soda Sales 8,000

Total Beer, Cig & Soda Sales 60,000Total Estimated Sales 86,000 (60,000 * 1.425)Taxable Sales 73,000 (86,000 * 85%)Reported 35,000Under Reported 38,000 (73,000-35,000)Tax 3,135 (38,000 * 8.25%)

Tax 48 mths 150,500 plus penalty & interest

AUDIT ESTIMATION METHOD BEER AND CIGARETTE 54% OF TOTAL SALES 1/54% = 1.85 = Total Sales Beer Sales 20,000 Cig Sales 15,000 Beer/Cig Sales 35,000

Total Beer/Cig Sales 35,000Total Estimated Sales 65,000 (35,000 * 1.85)

Taxable Sale 55,000 (65,000 * 85%)

Reported 35,000

Under-Reported 20,000 (55,000-20,000)Tax 1,650 (20,000 * 8.25%)

Tax 48 mths 79,000 plus penalty & interest

Audit Estimation Method For Periods Prior To HB11(JAN 2008)

Average Taxable Sales Method(no records available)

Total Audited Taxable Sales Using 12 Months Of HB11 data: $600,000Reported Taxable Sales 12 Months = $420,000Sales Under Reported for 12 Months = $180,000Sales Under Reported for 48 Months = $720,000Total Sales Tax Under Reported (8.25%) = $59,400Tax Assessment with Penalty/Interest = $72,000

BEST CASE SCENARIO

Taxpayer Has All Purchases

Taxpayer Has All Cash Register Tapes

Register Tapes List Each Product Type

Expected Sales Can Be Calculated By Using Actual Costs and Markup From Taxpayer Records

NO RECORDSNo Z-Tapes

No Purchase Invoices From Taxpayer

Little or No Bank or Income Tax Information

No Way To Determine Product Markup

IF NO RECORDS ARE AVAILABLE DO A COST MARKUP AUDIT

USING THE NATIONAL CONVENIENCE STORE MARKUPS AND

PRODUCT MIXES

What after Sales Tax Audit?

Once you are found deficient you have a right to appeal

Request for Redetermination Hearing60 Day Conference with Auditor/SupervisorFile Sent to Legal DepartmentAttorney Review with Taxpayer Conference

AT ANY POINT IN TIME DURING REDETERMINATION PERIOD A SETTLEMENT CAN BE REQUESTED.

What after Sales Tax Audit?

Question Often Asked Will IRS Audit Follow Sales Tax Audit?

WHAT IF IRS AUDIT?

Once You Have Accepted The Liability Of Sales Tax by settling with Texas Comptroller, you could be liable for Corporate Income Tax On Under Reported Sales.

• For 4 year audit under reported sales = $800,000

• Corporate Tax Rate = 15%• Estimated Income Tax = $120,000 w/o Interest & Penalty

ASK YOURSELF – CAN YOU DEFEND THIS IN A COURT OF LAW

THINK OUTSIDE THE BOX WHEN DEALING WITH A CASH BUSINESS

Record Keeping

Thank you