My audit appeal just asked for a credit for tax I over-collected from related companies — why was it rejected, and why did the compliance and amnesty penalties stick?

Plain-English summary

A dealer's second sales and use tax audit, covering July 2014 through April 2017, assessed tax on untaxed general expense and fixed asset purchases. Instead of contesting the audit, the dealer wrote asking for a credit for sales tax it had erroneously collected from its related entities, and for penalty abatement. The Tax Commissioner upheld the assessment and both penalties, and explained — point by point — why the credit request went nowhere.

1. It wasn't a "complete appeal." Va. Code § 58.1-1821 gives 90 days to apply for correction, and 23 VAC 10-20-165 requires a complete appeal: the alleged errors in the assessment, the grounds relied on, all relevant facts, and the legal authority supporting the position. An incomplete appeal "does not satisfy or extend the 90-day limitation period" (23 VAC 10-20-165 D 4). The dealer's letter alleged no error in the assessment at all — it just asked for an overpayment credit — so it wasn't an application under § 58.1-1821.

2. It wasn't a protective claim either. Va. Code § 58.1-1824 lets a taxpayer preserve judicial remedies by filing a refund claim within three years of the assessment — but only where the assessment has been paid, and the regulation requires all assessed tax, penalty, and interest for the years at issue to be paid in full first (23 VAC 10-20-190 A 1; P.D. 86-224). Those conditions weren't met.

3. Over-collected tax follows the dealer-first refund procedure. A dealer that collects tax on an exempt or nontaxable transaction must remit it to the Department unless it refunds or credits the customer (§ 58.1-625 C). Under the Department's refund-claim Procedures, the dealer must refund erroneously collected tax directly to the customer on request — the only outs being that the dealer believes the tax was proper, is out of business, or would suffer undue financial hardship, none of which applied. The dealer then makes itself whole by reporting the refunded transactions on the exempt sales line of its return for the month of the refund, reducing that month's liability, with supporting documentation retained per § 58.1-633. This dealer gave no indication it had refunded its related entities anything, so there was nothing to credit.

4. The compliance penalty was mandatory. Va. Code § 58.1-635 mandates penalties on deficiencies, and 23 VAC 10-210-2032 B 4 applies the penalty on a second-generation audit unless the taxpayer's compliance ratio reaches 85% for sales tax or 60% for use tax. This dealer's use-tax compliance ratio was 14%.

5. The 20% post-amnesty penalty stuck too. Virginia's 2017 Tax Amnesty (Guidelines at P.D. 17-156) exposed unpaid amnesty-eligible liabilities to an extra 20% penalty. For ongoing field audits, amnesty-eligible periods were April 2017 and prior — squarely this audit. The penalty can be avoided if the liability (uncontested, or what remains after a § 58.1-1821 or § 58.1-1825 proceeding) is paid within 30 days of the proceedings' conclusion; the dealer "failed to take any of the necessary actions."

The updated bill is payable within 30 days to stop further interest.

What this means for you

Dealers who over-collect from customers (related or not)

You can't net over-collections against an audit deficiency by letter. The route is: refund the customer first, then recoup on the exempt-sales line of the return for the month of the refund, with documentation. Related entities are customers like any others for this purpose — and until they're actually refunded, the Department keeps the tax.

Anyone drafting a § 58.1-1821 appeal

An appeal must attack the assessment: state the claimed errors, the grounds, the facts, and the legal authority. A letter that asks for something else — a credit, a payment plan, sympathy — is not an appeal, and it won't stop the 90-day clock while you prepare a real one.

Repeat-audit businesses

Second audits are penalty-primed: the compliance-ratio thresholds (85% sales / 60% use) are the only escape, and a 14% ratio isn't close. If your first audit found use-tax gaps, fix the accrual process immediately — the second audit prices the failure, and old audit periods can still carry the 2017 amnesty's extra 20%.

Common questions

Q: Why wasn't the credit request treated as an appeal of the audit?
A: Because it alleged no error in the assessment. A complete appeal must set out the claimed errors, grounds, facts, and legal authority; without them the filing isn't an application under § 58.1-1821 and doesn't extend the 90-day deadline.

Q: What's a protective claim, and why didn't it work here?
A: Under § 58.1-1824, a taxpayer who has paid an assessment can preserve judicial remedies by filing a refund claim within three years of the assessment — with all assessed tax, penalties, and interest paid in full first. The dealer met neither condition.

Q: How does a dealer recover tax it wrongly collected and already remitted?
A: Refund the customer, then report the refunded transactions on the exempt sales line of the return for the month the refund was made, reducing that month's tax. Keep the documentation with the return worksheet.

Q: What are the compliance-ratio thresholds that avoid the second-audit penalty?
A: 85% or better for sales tax and 60% or better for use tax. This taxpayer's use-tax ratio was 14%, so the penalty applied.

Q: Could the 20% amnesty penalty have been avoided?
A: Yes — by paying the uncontested liability (or what remained after resolving a proper appeal) within 30 days of the conclusion of the proceedings. The taxpayer took none of the actions the Guidelines require.

Citations and references

Statutes and regulations:

• Va. Code § 58.1-1821 — the 90-day administrative appeal; 23 VAC 10-20-165 (complete-appeal requirements; D 4: incomplete appeals don't extend the deadline)
• Va. Code § 58.1-1824 — protective claims; 23 VAC 10-20-190 A 1 (full payment required)
• Va. Code § 58.1-625 C — dealer duties for erroneously collected tax
• Va. Code § 58.1-633 — documentation of refunds and credits
• Va. Code § 58.1-635 — mandatory penalty; 23 VAC 10-210-2032 B 4 (second-generation audit compliance ratios)
• Va. Code § 58.1-1825 — judicial correction, referenced in the amnesty rules

Authorities the Department relied on (described here, not linked): P.D. 86-224 (11/3/1986) (protective-claim conditions) and P.D. 17-156 (9/5/2017) (the Virginia Tax Amnesty Guidelines, including the 20% post-amnesty penalty and the 30-day payment window for field-audit assessments).

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 25-47

Original ruling text

April 10, 2025

Re: 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 July 2014 through April 2017.

FACTS

An audit was conducted on the books and records of the Taxpayer for the period at issue. The auditor found that the Taxpayer made untaxed general expense and fixed asset purchases resulting in an assessment. The Taxpayer filed an application for correction requesting a credit for sales taxes erroneously collected from its related entities. In addition, the Taxpayer also seeks the abatement of penalties.

ANALYSIS

Application for Correction

Virginia Code § 58.1-1821 states that "[a]ny person assessed with any tax administered by the Department of Taxation may, within ninety days from the date of such assessment, apply for relief to the Tax Commissioner." Title 23 of the Virginia Administrative Code (VAC) 10-20-165 interprets Virginia Code § 58.1-1821 and sets out guidelines for the filing of administrative appeals. Subsection D 4 of this regulation states: "An incomplete appeal or notice of intent to appeal does not satisfy or extend the 90-day limitation period."

Title 23 VAC 10-20-165 A defines a "complete appeal" as "an administrative appeal containing sufficient information, as prescribed in subsection D of this section, so that the grounds upon which the taxpayer relies in contesting an assessment are fully set forth to allow the Tax Commissioner to make an informed final determination." Subsection D provides a list of the information required for a complete appeal. The required information includes alleged errors in the assessment, the grounds upon which the taxpayer relies and all facts relevant to the taxpayer's contention. In addition, taxpayers must provide the legal authority (statutes, regulations, rulings of the Tax Commissioner, court decisions, etc.) which is the basis for the taxpayer's position in the appeal.

In this instance, the correspondence submitted by the Taxpayer does not constitute a complete appeal. The correspondence requests a credit for overpayment but does not allege any errors in the assessment. Because the Taxpayer has not alleged any error with the assessment, the Taxpayer’s correspondence cannot be considered to be an application under Virginia Code § 58.1-1821.

Protective Claim

Because the Taxpayer seeks a credit for sales taxes erroneously collected, the Department has considered whether the request can be a protective claim for refund. Virginia Code § 58.1-1824 provides that “[a]ny person who has paid an assessment of taxes administered by the Department of Taxation may preserve his judicial remedies by filing a claim for refund with the Tax Commissioner. . . within three years of the date such tax was assessed.” Virginia Code § 58.1-1824, therefore, expressly limits the right to file a protective claim to cases in which both the filing of the claim and the payment of the assessment occurred within three years of the assessment. See Public Document (P.D.) 86-224 (11/3/1986). In addition, all assessed taxes, penalties, and accrued interest for the year or years subject to the request must be paid in full before a taxpayer may file a protective claim. See 23 VAC 10-20-190 A 1.

Under Virginia Code § 58.1-625 C, any dealer that collects sales or use tax on an exempt or non-taxable transaction is required to remit the erroneously or illegally collected tax to the Department unless the tax has been refunded to the consumer or credited to their account. To assist dealers and consumers seeking refunds or credits, the Department issued retail sales and use tax refund claim procedures (the “Procedures”). In accordance with the Procedures, a dealer must refund sales or use tax erroneously collected on transactions exempt or not subject to the tax directly to the consumer when requested to do so by such customer unless one of the limited circumstances applies:

1. The dealer believes the transaction was properly subject to the tax.

2. The dealer is no longer in business.

3. Refunding the tax would cause an undue financial hardship to the dealer.

The Taxpayer has given no indication that the sales tax on the transactions in question have been refunded to the customers. In addition, the facts of this case do not fall within one of the circumstances that would impact the Taxpayer’s ability to issue refunds to the related entities.

In addition, the Procedures permit a dealer to recover the amount of sales tax refunded or credited to a customer that was previously reported and remitted to the Department on their return for the month in which a refund or credit is made. In order to claim this credit or refund, the dealer would report the sales price of the transaction(s) on the exempt sales line on the applicable return reducing the dealer’s sales tax liability for the month the sales tax amount was refunded. Virginia Code § 58.1-633 requires the dealer to maintain supporting documentation regarding refunds and credits along with the return worksheet in their records.

Compliance Penalty

Virginia Code § 58.1-635 mandates the application of penalty to tax deficiencies. Title 23 VAC 10-210-2032 B 4 provides that penalty is always applied to second-generation audits unless a taxpayer’s compliance ratio meets or exceeds 85% for sales tax and 60% for use tax. The current audit, which was the Taxpayer’s second, reflects a use tax compliance ratio of 14%. Based on this measurement, the compliance penalty was properly applied in the audit.

Post-Amnesty Penalty

The 2017 General Assembly enacted legislation establishing a Tax Amnesty program administered by the Department that spanned a 60-to 75-day period. The Guidelines for the Virginia Tax Amnesty Program (the “Guidelines”), issued as Public Document (P.D.) 17-156 (9/5/2017), permitted taxpayers with delinquent returns for amnesty-eligible periods to qualify for certain tax payment benefits. Any tax liability that was eligible for amnesty benefits but remained unpaid is subject to a 20% amnesty penalty in addition to all other penalties.

The amnesty-eligible periods for ongoing field audits are the month of April 2017 and prior. The penalty, however, will not be applied to any assessment generated from a field audit of a business for an amnesty eligible period provided that any uncontested liability, or any contested liability remaining upon resolution of an application for correction under Virginia Code § 58.1-1821 or Virginia Code § 58.1-1825, is paid within 30 days from the date of the conclusion of the proceedings, whichever is latest. The Taxpayer failed to take any of the necessary actions under the Guidelines to either avoid or delay the assessment of the penalty.

DETERMINATION

Because the Taxpayer has not contested the audit liability and the penalties were properly applied by the Department, the assessment is upheld. An updated bill, with interest accrued to date, will be mailed shortly to the Taxpayer. No further interest will accrue provided the outstanding assessment is paid within 30 days from the date of this letter.

In addition, the Taxpayer has not shown by the facts or evidence provided that it has met the statutory or procedural requirements for requesting a refund or credit for taxes erroneously collected from the related entities. Accordingly, the Department is unable to grant the Taxpayer’s request.

The Code of Virginia sections cited are available online at law.lis.virginia.gov. The public documents cited are available at tax.virginia.gov in the Laws, Rules, & Decisions section of the Department’s website. If you have any questions regarding this response, you may contact * in the Office of Tax Policy and Legal Affairs, Tax Adjudication and Resolution Division, at or **.

Sincerely,

James J. Alex

Tax Commissioner

Commonwealth of Virginia

AR/3435.F

Related Documents

86-224

17-156