Receiving a New York State sales tax audit notice can be unsettling for any business owner. You may be wondering why your business was selected, what records the auditor will examine, how much the audit could cost you, and whether you should speak with a tax attorney before responding.
A sales tax audit does not necessarily mean that the New York State Department of Taxation and Finance believes you committed tax fraud or even that you owe additional tax. The Department conducts audits to determine whether businesses have properly reported sales, collected the correct amount of sales tax, and remitted the tax they were required to collect.
But a sales tax audit should be taken seriously. An audit that begins as a routine examination can result in a substantial assessment of additional tax, penalties and interest. In some cases, business owners and other responsible persons may face personal liability. More serious cases involving suspected intentional conduct can potentially lead to a criminal investigation.
If you have received a New York State sales tax audit notice, what you do at the beginning of the audit can have a significant effect on what happens later.
Here are some important steps to consider.
- Read the Sales Tax Audit Notice Carefully
Do not ignore the audit letter.
The notice should identify the tax being examined, the periods involved, the auditor or office handling the matter, and the records the Department wants to review.
The New York State Department of Taxation and Finance states that taxpayers selected for audit will usually receive a letter requesting information. In many cases, the Department requests records concerning returns filed during the preceding three years.
You should determine:
- Which sales tax periods are being audited?
- What records have been requested?
- When are the records due?
- Has an initial audit appointment been scheduled?
- Is this a desk audit or field audit?
- Does the notice identify any particular issue the Department is examining?
Do not assume that every request must immediately be answered in precisely the form requested. Before producing a substantial volume of business records, it can be important to understand the scope of the audit and what the records may show.
- Do Not Simply Turn Over Your Entire Accounting System
One of the biggest mistakes a business can make is responding to an audit notice by immediately giving the auditor unrestricted access to everything.
The Department is entitled to examine records necessary to determine whether your sales tax returns were accurate. New York businesses are required to maintain records supporting the transactions reported on their returns.
But that does not mean records should be produced without first reviewing them.
Depending on the business, an auditor may request items such as:
- sales journals;
- purchase records;
- invoices;
- cash register tapes;
- point-of-sale (POS) data;
- bank statements;
- credit-card processing statements;
- general ledgers;
- federal and state tax returns;
- exemption and resale certificates; and
- records concerning taxable and nontaxable sales.
Before providing records, you should know what is contained in them and whether they are consistent with the sales reported on the business’s New York sales tax returns.
Producing records without first understanding them can create unnecessary problems.
- Determine Whether Your Books and Records Are Adequate
This is one of the most important issues in a New York sales tax audit.
If the auditor concludes that your books and records are adequate, the Department may generally conduct the audit using those records.
If the Department determines that the records are inadequate to verify taxable sales, however, the audit can become substantially more difficult.
The Department’s current recordkeeping guidance states that records may be considered inadequate when, among other things, they do not verify sales receipts, do not establish whether receipts are taxable, fail to provide sufficient transaction-level detail, do not allow purchases to be correlated with sales, or otherwise do not permit a complete audit.
When records are considered inadequate, the Department may use an estimated audit methodology to calculate additional sales tax.
Depending on the business, this could involve purchase information, markup percentages, observation tests, credit-card information, industry data, or other indirect methods.
An estimated audit can produce an assessment significantly greater than the amount a business owner believes is actually due.
For that reason, whether the business’s books and records are adequate can become one of the most important disputes in the entire audit.
- Reconcile Your Sales Before the Auditor Does
Before responding substantively to the audit, consider performing your own reconciliation.
Compare the gross sales reported on your sales tax returns with information contained in:
- federal income tax returns;
- New York income or corporate tax returns;
- bank deposits;
- credit-card processor statements;
- POS reports;
- general ledger records; and
- other sales records.
Differences do not necessarily mean that additional sales tax is due. There may be legitimate explanations.
For example, bank deposits may include loans, transfers between accounts, capital contributions, or other amounts that are not taxable sales. Gross receipts reported for income-tax purposes may also include transactions that are not subject to New York sales tax.
The important point is to identify discrepancies before the auditor does and determine whether they can be documented and explained.
- Review Exemption and Resale Certificates
If your business makes sales that it treats as exempt from sales tax, the auditor may examine the documentation supporting those exemptions.
This can become a major issue for wholesalers, contractors, manufacturers, and businesses that regularly accept resale or exemption certificates.
A business should review its certificates early in the audit to determine whether they are complete and whether the transactions were properly treated as exempt.
An auditor who concludes that exempt sales were inadequately documented may attempt to treat those transactions as taxable, potentially increasing the assessment considerably.
- Be Careful About Statements Made to the Auditor
Business owners naturally want to cooperate with an audit. Cooperation is generally appropriate.
But cooperation does not require speculation.
An auditor may ask questions about how the business operates, how cash is handled, how sales are recorded, who prepares sales tax returns, why certain transactions were treated as exempt, or why reported sales differ from other financial records.
If you do not know the answer to a question, it is generally better to review the records and provide an accurate response than to guess.
An inaccurate statement made casually at the beginning of an audit can become important later.
This is particularly true where the audit involves substantial cash transactions, significant discrepancies, unreported sales, missing records, or sales tax that may have been collected from customers but not remitted to the State.
- Understand That Business Owners Can Face Personal Liability
A corporation or limited liability company does not necessarily shield every individual associated with the business from New York sales tax liability.
Under New York law, certain owners, officers, members, managers, employees, or other persons who are responsible for collecting and remitting sales tax may potentially be held personally liable for unpaid sales tax.
That means a sales tax audit can become more than a dispute about what the business owes.
In some cases, the Department may seek payment from individuals personally.
If an audit involves a substantial potential liability, business owners should therefore consider both the company’s exposure and their individual exposure.
- Recognize When an Audit May Have Criminal Implications
Most sales tax audits are civil examinations.
However, certain facts can create more serious concerns.
Examples may include allegations involving intentionally unreported cash sales, false records, fabricated exemption documentation, deliberately understated sales, or sales tax collected from customers but intentionally not remitted to New York State.
The Department’s own guidance warns that willful failures concerning required sales tax records can potentially result in criminal penalties.
If the questions or conduct of the auditor suggest that the matter may involve suspected fraud or intentional misconduct, you should consider obtaining legal advice before making further statements or providing additional information.
A business owner should not assume that every sales tax audit will remain purely civil regardless of what the auditor discovers.
- Know Your Right to Representation
You do not have to handle a New York State sales tax audit by yourself.
New York expressly recognizes a taxpayer’s right to representation during an audit. A taxpayer may authorize an attorney, accountant, enrolled agent, or other qualified representative to deal with the Department.
An attorney can communicate with the auditor, review document requests, analyze potential exposure, address disputed audit methodologies, and help determine how the business should respond to proposed adjustments.
Representation can be particularly important when:
- the potential assessment is substantial;
- records are incomplete;
- the auditor is considering an estimated audit;
- substantial cash sales are involved;
- there are discrepancies between tax returns and financial records;
- sales tax was collected but may not have been remitted;
- the Department may assert personal liability against an owner or officer; or
- there is concern about fraud or criminal exposure.
The earlier these issues are identified, the more options the taxpayer may have for addressing them.
- Do Not Automatically Agree to the Auditor’s Findings
An auditor’s proposed assessment is not necessarily the final word.
If the Department proposes additional tax, the taxpayer should carefully review how the auditor calculated the assessment.
Questions may include:
- Did the auditor use the correct records?
- Was the audit methodology reasonable?
- Were nontaxable transactions improperly included?
- Were exemption certificates disregarded?
- Was an observation period representative?
- Was a markup percentage appropriate?
- Were sales projected across periods that were not comparable?
- Were penalties properly imposed?
If you disagree with the audit findings, you may provide additional documentation and arguments during the audit.
If the disagreement is not resolved and the Department ultimately issues a Notice of Determination, taxpayers generally have the right to challenge the determination through the New York State Bureau of Conciliation and Mediation Services or the Division of Tax Appeals.
The deadline stated on the notice is extremely important. In many sales tax cases, the protest period is 90 days, and statutory filing deadlines generally cannot be extended.
What Should You Do After Receiving a New York Sales Tax Audit Notice?
The most important thing is not to panic—but also not to ignore the notice.
Take the audit seriously from the beginning.
Determine what periods are being audited. Identify the records being requested. Review your books before producing them. Reconcile your reported sales with your financial information. Determine whether your records adequately establish taxable and nontaxable transactions.
Most importantly, identify potential problems before responding to the Department.
A New York State sales tax audit can sometimes be resolved with relatively minor adjustments. In other cases, an audit can lead to substantial assessments, penalties, personal liability, or potentially more serious consequences.
Understanding which type of case you have at the beginning can make an important difference.
Speak With a New York Sales Tax Audit Attorney
If your business has received a New York State sales tax audit notice and you are concerned about the potential consequences, consider speaking with an experienced New York tax attorney before responding.
At Thorgood Law Firm, we represent businesses and individuals in New York State tax audits and tax controversies, including sales tax audits, challenges to proposed assessments, responsible-person liability, tax appeals, and matters involving potential civil or criminal tax exposure.
Early legal advice can help identify potential problems, protect your rights, and develop a strategy for responding to the audit before important decisions are made.
Contact Thorgood Law Firm to discuss your New York State sales tax audit.
Frequently Asked Questions
How far back can New York State go in a sales tax audit?
New York generally has a three-year statute of limitations for tax audits. There are important exceptions, including circumstances involving unfiled returns or false or fraudulent returns intended to evade tax. The particular periods listed in the audit notice should therefore be reviewed carefully.
What records will a New York sales tax auditor request?
The records depend on the business, but auditors may request sales journals, invoices, purchase records, bank statements, credit-card processor statements, POS data, general ledgers, tax returns, exemption certificates, resale certificates, and other records used to verify taxable and nontaxable sales.
What happens if my business does not have complete sales records?
Incomplete records can be a significant problem. If the Department determines that the records are inadequate to conduct a complete audit, it may use an estimated audit methodology to calculate taxable sales and additional tax. The methodology and resulting assessment may be disputed depending on the circumstances.
Can I be personally liable for my company’s New York sales tax?
Potentially. New York can impose personal liability on certain individuals who qualify as responsible persons for a business’s sales tax obligations. Incorporating the business or operating through an LLC does not necessarily eliminate that exposure.
Can a New York sales tax audit become a criminal investigation?
Yes, in appropriate circumstances. Most audits remain civil, but evidence suggesting intentional underreporting, false records, deliberate failure to remit collected sales tax, or other willful conduct can create potential criminal exposure.
Should I give the auditor all of my business records immediately?
You are required to provide records necessary to substantiate your sales tax reporting, but you should understand what is being requested and review your records before producing them. If the audit presents substantial exposure or complicated issues, consider obtaining professional advice before responding.
Can I have an attorney represent me during a New York sales tax audit?
Yes. New York taxpayers have the right to authorized representation during an audit. An attorney can communicate with the auditor, review document requests, analyze potential exposure, and address disputed audit findings.
Can I appeal the results of a New York sales tax audit?
Yes. If you disagree with a final determination, you may have administrative appeal rights through the Bureau of Conciliation and Mediation Services or the New York State Division of Tax Appeals. Pay close attention to the deadline stated in the notice; statutory protest deadlines generally cannot be extended.