Could a Virginia printer reduce an untaxed-sales audit sample because customers self-assessed tax or later shipped goods outside Virginia?

Subject

Assessment of tax on untaxed sales.

Plain-English summary

Virginia upheld the printer's untaxed-sales audit sample. The taxpayer argued that the sample was distorted by large sales and by customers that self-assessed use tax, but those facts did not show that the transactions were isolated or that the sample was unrepresentative.

The seller's duty to collect tax was independent of whether its customers later paid use tax. The relevant protection was a valid exemption certificate or direct-pay permit. The audit gave a one-time credit where the taxpayer documented that a customer had actually remitted Virginia tax, but that did not justify removing the transactions from the sample and changing the error factor.

Virginia also rejected the claim that goods sent from Virginia distribution centers to out-of-state stores qualified for the out-of-state-delivery exemption. Directing delivery to a Virginia distribution center was a first use in Virginia, so later interstate shipment did not undo the taxable event.

What this means for you

• Keep valid exemption certificates and direct-pay permits with the sales records they support.
• A customer's later use-tax payment may support a transaction-level credit, but it does not erase the seller's collection error.
• Large-dollar or customer-self-assessed transactions remain in a sample unless the taxpayer proves the sample is flawed or the transaction is isolated from normal operations.
• Delivery to and control over property at a Virginia distribution center can create taxable first use before later shipment elsewhere.

Common questions

Q: Why did customer self-assessment not invalidate the sample?
A: The sample measured the seller's compliance, not the combined compliance of seller and customers. The seller lacked valid exemption certificates or direct-pay permits for the sampled sales.

Q: Could documented customer tax payments reduce the bill?
A: Yes, as a one-time credit for documented invoices, but the ruling did not allow those sales to be removed from the sample.

Q: Why was the out-of-state-delivery exemption unavailable?
A: The property was first delivered to the customers in Virginia. That Virginia use was taxable even though the property later went to stores outside the state.

Citations and references

• Va. Code §§ 58.1-604, 58.1-602, and 58.1-609.10 4.
• 23 VAC 10-210-6030 A.
• Commonwealth v. Miller-Morton, 220 Va. 852, 263 S.E.2d 413 (1980).
• P.D. 06-122, P.D. 04-99, P.D. 05-63, P.D. 04-204, P.D. 99-66, and P.D. 07-17.

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 08-99

Original ruling text

June 18, 2008

Re: § 58.1-1821 Application: Retail Sales and Use Tax

Dear *:

This is in response to your letter submitted on behalf of * (the "Taxpayer") in which you seek correction of the retail sales and use tax assessment issued for the period October 2003 through August 2006.

FACTS

The Taxpayer produces large format printing and displays. An audit by the Department resulted in the assessment of tax on untaxed sales. The Taxpayer cites two issues as its basis for contesting the assessment. Each issue will be addressed separately below.

DETERMINATION

Issue 1

The Taxpayer contends that the error rate calculated for the sample resulted in a larger taxable sales amount than the amount of sales actually deducted on its sales tax returns as non-taxable. The Taxpayer asserts that the sample contained a disproportionate number of transactions for which its customers self assessed tax. As a result, the sample is distorted. The Taxpayer further contends that the inclusion in the sample of large sales to * ("Customer A") also distorted the sample and the assessment. Finally, the Taxpayer asserts that its customers, Customer A, ("Customer B"), and ** ("Customer C") have verified that they filed and correctly remitted the tax to the Department on purchases made from the Taxpayer.

In Public Document (P.D.) 06-122 (10/17/06), the taxpayer was assessed tax on untaxed sales to a customer. The taxpayer contended that the sales should have been removed from the audit sample because the customer paid the tax on the transactions through its own audit assessment. The determination provides that the purpose of the audit sample is to determine an error factor for the entire audit period. There were likely similar transactions outside the sample period on which the Virginia tax had not been paid. Therefore, removing the sales in question from the sample base would have skewed the sample and nullified its validity. The taxpayer made a number of untaxed sales during the sample period that were not supported by exemption certificates or direct pay permits. The taxpayer's obligation to collect sales tax on sales to its customers is not dependent on whether such customers paid use tax directly to the Department. The only exception to this general rule is when the purchaser provides the seller with a valid exemption certificate or a valid direct pay permit.

In P.D. 04-99 (9/8/04), the audit resulted in an assessment of use tax on untaxed sales to customers. Many of the customers did not have valid exemption certificates on file with the taxpayer. In instances where the customers provided documentation that the use tax had been remitted to the Department, the taxpayer was given a credit in the audit. The public document provides that the use of the sampling technique to examine sales provides a snapshot of the taxpayer's compliance with its sales tax collection and reporting responsibilities. The Department's sales sample determines the error rate at which the taxpayer failed to charge sales and use tax on sales without a valid supporting exemption certificate. The sample is not intended to determine the combined compliance of the taxpayer and its customers. The taxpayer's obligation to collect sales tax on all Virginia sales without a valid exemption certificate is not dependent on whether customers self assess and pay the use tax directly to the Department.

A transaction cannot be removed from an audit sample unless the transaction is isolated in nature and not a normal part of the taxpayer's operation, regardless if the item is a large dollar transaction or that it may constitute a large percentage of the taxable measure of the audit sample. See P.D. 05-63 (4/26/05), P.D. 04-204 (11/23/04) and P.D. 99-66 (4/15/99).

In order for the audit sample to be adjusted, the Taxpayer must demonstrate that the sample is flawed. In this instance, the Taxpayer cites a disproportionate number of sales to customers who self-assessed tax and large dollar sales as reasons for adjusting the sample. As provided in P.D. 06-122, P.D. 04-99 and P.D. 05-63, these are not sufficient justifications for making an adjustment to an audit sample. The audit revealed that Customer A, one of the customers the Taxpayer contends self-assesses tax, made several purchases from the Taxpayer during the audit period. Additionally, there were large dollar sales to other customers throughout the audit period. Regardless of these factors, the Taxpayer committed the error of failing to collect the tax on sales upon which the Taxpayer held no valid supporting exemption certificate. To remove the sales in question from the sample would skew the sample and nullify the validity of the sample. Further, the Taxpayer has not provided any evidence to support its contention that the sample is not representative of the audit period, or that the sample is flawed and invalidates the assessment. A one-time credit was allowed in the audit against the audit liability in instances where the Taxpayer could demonstrate that its customers had remitted the tax directly to the Department. Accordingly, I can find no reason to adjust the audit sample.

Issue 2

The Taxpayer contends that its records show a larger amount of sales going into Virginia than Customer A remitted use tax on. The Taxpayer asserts that the differences represent shipments to Customer A's distribution center in Virginia which sends products to its stores in several states outside Virginia. The Taxpayer represents that Customer A pays use tax to the Department based on the stores that actually receive and use the tangible personal property at issue. The Taxpayer maintains that this was also the case with Customer C. Relying on Va. Code § 58.1-609.10 4, the Taxpayer contends that because these items were not used in Virginia, they should not be taxable in Virginia.

Virginia Code § 58.1-604 imposes the use tax "upon the use or consumption of tangible personal property in this Commonwealth." Virginia Code § 58.1-602 defines use as "the exercise of any right or power over tangible personal property incident to the ownership thereof, except that it does not include the sale at retail of that property in the regular course of business." Title 23 Virginia Administrative Code 10-210-6030 A interprets the Code of Virginia and states, "The use tax applies to the use, consumption or storage of tangible personal property in Virginia when the Virginia sales or use tax is not paid at the time the property is purchased."

Pursuant to P.D. 07-17 (3/27/07), the use tax is a moment of transaction tax, i.e. , tax liability is incurred at the moment of first use in Virginia. Commonwealth v. Miller­Morton , 220 Va. 852, 263 S.E.2d 413 (1980) held taxable the storage of tangible personal property in Virginia even though the property would ultimately be shipped outside the state. If a taxable event occurs in Virginia, subsequent delivery outside this state does not immunize the taxable event.

In this instance, Customer A and Customer C make use of the property purchased from the Taxpayer in Virginia by directing the Taxpayer to ship the property to its distribution centers in Virginia. This constitutes a first use of the property in Virginia. Pursuant to Commonwealth v. Miller-Morton , this use represents a taxable event in Virginia, even if the property is subsequently delivered outside the state.

Based on documentation provided in the audit, a one-time credit was given in the audit for each invoice where Customer A remitted the tax to Virginia. No such documentation was received for the transactions incurred with Customer C.

Virginia Code § 58.1-609.10 4 provides, in pertinent part, that the retail sales and use tax does not apply to "[d]elivery of tangible personal property outside the Commonwealth for use or consumption outside of the Commonwealth." Virginia Code § 58.1-609.10 4 does not apply in this instance because the property was delivered to the Taxpayer's customers in Virginia before being shipped outside the state. Accordingly, the tax is correct as assessed and will not be removed.

CONCLUSION

Based on this determination, the assessment is correct. An updated bill, with interest accrued to date, will be mailed shortly to the Taxpayer. No further interest will accrue provided the outstanding balance is paid within 30 days from the date of the bill. Please remit your payment to: Virginia Department of Taxation, 3600 West Broad Street, Suite 160, Richmond, Virginia 23230, Attn: *. If you have any questions concerning payment of the assessment, you may contact at **.

The Code of Virginia sections, regulation and public documents cited are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's web site. If you have any questions about this determination, you may contact * in the Department's Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Janie E. Bowen

Tax Commissioner

AR/1-1919659889.P