By Michael J. Fleming
State tax amnesties usually fall into two overall categories — general and specific. A general amnesty usually covers all or most of the taxes that an authority administers. These amnesties are usually widely anticipated and well received by a wide audience. A specific amnesty is one that is targeted to a particular tax or taxes. For example, use tax has been a target of specific amnesties lately. Ohio is currently running a use tax amnesty, and Maine will begin offering one soon.
Are use tax-specific amnesties useful and beneficial? In general, we usually prefer voluntary disclosure agreements (VDAs) over all amnesties as we have detailed in previous articles, most notably, “You Missed the Tax Amnesty Express: Don’t Worry. You are probably better off with a VDA anyway!” However, as we point out in the aforementioned article, each state amnesty is different and as such should be reviewed and judged on its own merits. We have done so, but prior to discussing the details of each amnesty; let’s explore the concept of use tax and why compliance is increasingly important in today’s environment.
Sales Tax Vs. Use Tax
In general, the collection of either tax or an exemption certificate is required on every transaction involving a taxable service or transfer of tangible personal property (TPP). When the “ship to” and “ship from” locations are located within the same state, the tax is called a sales tax. The sales tax or exemption certificate is collected from the purchaser by the seller. And although the seller is tasked with the collection of the sales tax, it is usually the purchaser’s ultimate responsibility to pay the tax. When the “ship to” and “ship from” locations are in different states, a tax is still due. However, instead of it being called a sales tax it is called a use tax. By virtue of the interstate commerce clause of the US Constitution, states have been prohibited in the past from taxing interstate sales. To get around that prohibition, state’s enacted a complementary use tax statute to tax items brought into a state and “used” in the state. No tax could be charged by the origin state, but tax could be charged by the destination state. Please note: Remember, this paragraph started with the words “in general” because there are variations in definitions in various states.
Consumers Use Vs. Seller’s Use
Just because a use tax is due, doesn’t mean that the seller if off the hook collection-wise. It depends on nexus. In general, if the seller has nexus with the “ship to” state, then the seller is required to be registered and collect the tax or an exemption certificate from the purchaser. Again, it is important to note that even though the seller is tasked with the collection of the sales tax it is usually the purchaser’s ultimate responsibility to pay the tax. In this scenario, it is not uncommon that the tax is referred to as a seller’s use tax. Two alternative names for this transaction tax are vendor’s use tax and retailer’s use tax.
If the seller does not have nexus and is therefore not required to collect tax, or fails to collect tax for any reason at all, then the purchaser must self-assess, accrue, and remit the use tax. As previously noted, sales and use taxes are always the ultimate responsibility of the purchaser. In this instance, the tax is called a consumer’s use tax.
Most states have some sort of language such as Ohio’s that states “Consumer’s use tax must be paid on all taxable purchases of tangible personal property or services used, stored or otherwise consumed in Ohio unless Ohio sales tax has been paid to a vendor or the tax has been properly paid to another state.” Some common instances where sellers often do not collect tax and consumer’s use comes into play include: purchases completed over the internet, through a catalog, or on the telephone. These transactions are fairly straightforward and most taxpayers realize the need to put processes and systems in place to self-assess and accrue the correct amounts in these situations. Some transactions are not as straightforward and require additional scrutiny:
- The withdrawal of taxable merchandise from your business’ resale inventory for your personal or business use;
- The provision of promotional materials or catalogs to clients or prospects at no charge;
- The purchase or delivery of a product out of state which is subsequently bought into the state for use, storage, or consumption;
- The provision of free products or services. Some examples could be a restaurant providing a free meal or a hotel giving away stationery; and
- The interstate movement of company equipment, supplies, or other assets to be used in a state on a temporary or permanent basis.
The above examples are not meant to be an exhaustive list and may or may not apply to your particular fact pattern. They are meant to show the complexities involved in figuring out your use tax exposure. To make matters more interesting, a handful of states have different rates for use tax, which make compliance even harder and makes use tax a prime target for state auditors.
Sales and Use Tax Audits
Most people agree that the states have increased the frequency of their audits, and many would agree with our findings that the states are becoming increasingly aggressive in their tactics and the positions they are taking. This is especially true when it comes to use tax. Almost all of the audit assessments we are seeing have a use tax component. Auditors have been scouring purchase invoices looking for instances of no tax paid. Fixed assets, expenses, and services have all proven to be ripe targets. The state of Ohio agrees — their audit statistics show that 96 percent of purchase audits result in taxpayers owing tax.[i]
One area that is especially ripe for auditors is manufacturers who purchase items tax-free that do not fit the state’s definition being used in the manufacturing process. Companies that can be classified as contractors are also ripe for the auditors because many states have complex contracting rules. A third area ripe for audits is those companies that don’t have adequate systems or processes in place to identify where they need to self-assess and correctly accrue. We can go on and on with examples, but I think you get the point. Use tax should be a priority.
Use Tax Exposure Mitigation Options
When most taxpayers realize they have some exposure, they immediately want to become compliant and make things right. They may get registered, file a return, or make a large increase to what they are already filing. Beware though — these may be exactly the wrong steps to take. The first thing to do is see what your past exposure is. Part of this process includes figuring out what is taxable and at what rate. Once you know that, figure out your exposure in terms of dollars. If it’s large enough, you will want to take advantage of an amnesty or VDA program.
Currently Available Amnesty Programs
Maine Use Tax Compliance Program – Maine will be offering a use tax amnesty beginning October, 1 2012, and running through November 30, 2012. This amnesty does not cover any periods after January 1, 2012, or any amounts already reported or accessed. The program allows for the waiver of penalty and interest. The amnesty also allows for a “modified” limited look back. You have to accurately report all your taxable unreported purchases for the six-year period between 2006 and 2011, but you only pay the tax for the three highest years. Some taxpayers will have the possibility of entering into a six-month repayment agreement with the state. [ii]
So should you take advantage of the Maine Use Tax Compliance Program? The answer is: It depends on your circumstances. The biggest question to answer is, do you owe any taxes other than the consumers use tax? If so, then the VDA is likely a better option for you. The VDA covers a wide variety of taxes, has a three-year look-back, and allows for the waiver of penalty. Interest must be paid.
If all you owe is the consumers use tax, then you will want to next examine where your greatest exposure lies. If it is after 2011 or prior to 2009, then you will probably want to again look at the VDA. However, in most circumstances other than those mentioned, the Maine Use Tax Compliance Program is an amnesty worth its SALT and definitely should be considered.
Ohio Consumer Use Tax Amnesty Program – The state of Ohio began offering its current Consumer Use Tax Amnesty Program on October 1, 2011, and will continue running it through May, 1 2013. This amnesty may not be available to you if you have a prior use tax assessment or have submitted a prior amnesty application; however, the VDA program may still be open to you. The program allows for the waiver of penalty and interest for anyone not registered or registered after June 1 2011. For those taxpayers registered prior to June 1, 2011, only the penalty is waived. The amnesty also allows for a limited look back by waiving all consumers use tax liability prior to January 1, 2009, that has not already been assessed. There is also the possibility of entering into an interest free repayment agreement of up to seven years with the state. There are restrictions on who is eligible and the ultimate length of the plan will be determined based upon the amount owed.[iii]
So should you take advantage of the Ohio Consumer Use Tax Amnesty Program? The answer is it depends on your circumstances. The biggest question you should answer is, do you owe any taxes other than the consumers use tax? If so, then the VDA is probably a better option for you. The VDA covers a wide variety of taxes, has a three-year look back, and allows for the waiver of penalty. Interest must be paid.
If all you owe is the consumers use tax, then your options are limited. If you qualify for the amnesty, you are not eligible to participate in a VDA. If you do not qualify for the amnesty, then you may still qualify for the VDA. We believe except for the situations previously mentioned that the Ohio Consumer Use Tax Amnesty Program is an amnesty worth its SALT and should be considered.
Rhode Island General Amnesty – We have previously written about the Rhode Island General Amnesty in an article entitled, “Rhode Island Red: Should You Cross the Road for this Tax Amnesty Program?” In this article, we explain the limited reasons for when we would use this amnesty, and conclude that the VDA may be preferable.
Streamlined Sales Tax Project Amnesty – We have written about the Streamlined Sales Tax Project (SSTP) amnesty in a number of previous articles including, “Are You For or Against Amnesty?” In these articles we tout its great benefits as well as its drawbacks. One drawback being that this is a very specific amnesty that covers sales and sellers use tax only, which means this option is not available for consumers use tax.
Voluntary Disclosure Agreements – Voluntary disclosure agreements, or as they are sometimes called “ongoing amnesties,” are a great option to mitigate exposure for many taxes. Most states, with the exception of New Mexico, offer these programs. (New Mexico instead offers a managed audit program which is similar to a VDA.) The majority of states offer a limited look back of three or four years, but one notable exception is Hawaii, which has a 10-year look-back. Virtually all the states waive penalty, but only a handful waive some or all of the interest, including Oklahoma and Texas.
One of the biggest drawbacks of a VDA is that most states will not allow you to participate in their VDA program once they have identified you. The VDA programs are offered in order to convince non-compliant taxpayers to step forward so the states don’t have to expend resources to find them. Once the state knows who you are, there is usually little reason to offer you a VDA.
Use tax is a complex issue that many companies are often not aware of or misunderstand. Many other companies fail to grasp the importance of having adequate systems and processes in place to correctly identify, self-assess and accrue the correct amounts of use tax. The states know this and have stepped up their enforcement efforts. Where do you stand? We suggest that all companies review their systems and procedures from time to time. The worst time to find out you have exposure is during an audit. If you find yourself with some use tax exposure, it is best you approach the state before the state approaches you. Maine and Ohio both have excellent amnesty programs to help you become compliant while minimizing your exposure. In all the other states, a VDA may be your best option. If you are unsure of your position, need to minimize your exposure, or implement or upgrade procedures in order to stay compliant, don’t be afraid to ask for help. You are not alone.
Peisner Johnson & Company, founded in 1992, is the largest national CPA firm that is focused entirely on solving state and local tax problems. Peisner Johnson is comprised of former state auditors and other professionals with years of state and local tax experience. Peisner Johnson has worked with clients of all sizes, in all industries and currently works in all 50 states, U.S. territories, and Canadian Provinces. We work with many CPAs who find us to be a perfect complement to their business since we limit our practice to state and local taxes. We do nothing else. If you would like information on any of our free webinars, free chart services, or would like to learn how we may be able to help, you may email Michael Fleming or call him at 972-277-4820.
[i] Ohio Department of Taxation – Use Tax Explanation PDF
[ii] Maine Revenue Services – Sales, Fuel & Special Tax Division General Bulletin No 102 August 16, 2012
[iii] Ohio Department of Taxation – Website