Does a New Mexico business owe interest on unpaid gross receipts tax when it mistakenly deducted its receipts from a government day-care program, even though the underpayment was innocent and the state took years to audit?

Plain-English summary

Kid’s Kountry, a New Mexico day care, owed interest on gross receipts tax it never paid on its payments from a state program — because sales of services to the government are taxable (only sales of food to the government are exempt), and interest on the late-paid tax is mandatory no matter how innocent the mistake or how long the state took to audit. Protest DENIED.

From 1995 to 2001, Kid’s Kountry provided meals and day-care services, including to children covered by programs administered by the New Mexico Children, Youth and Families Department (CYF). The owner misunderstood the law: he paid gross receipts tax on payments from parents but deducted all of his receipts from CYF. In fact, while sales of food to the government are not taxed, sales of services to the government are. He never consulted an accountant or attorney. When CYF later added contract language warning that its payments were subject to gross receipts tax, he read it but assumed CYF was withholding the tax because its warrant form listed payments under a "Net Amount" column — without ever calling CYF to confirm.

A 2001 audit (triggered by IRS information) found the erroneous CYF-service deductions understated the tax by more than 25 percent, so the auditor extended the audit back six years. The Department assessed gross receipts tax plus interest — no penalty — of $55,355.16 tax / $25,087.51 interest for 1995–2000 and $4,512.36 tax / $311.42 interest for January–April 2001, with the total interest in dispute reaching $25,653.00. The owner paid the tax and protested only the interest.

Interest is mandatory — "shall be paid"

Section 7-1-67 provides that interest "shall be paid" on tax not paid by its due date. "Shall" makes interest mandatory, not discretionary, with no exceptions (State v. Lujan). Interest is not a punishment; it compensates the state for the time value of unpaid revenue. Even a taxpayer who gets a formal extension owes interest from the original due date (Section 7-1-13(E)).

The self-reporting system placed the duty on the owner, not CYF or the Department

New Mexico's tax system is self-reporting: taxpayers, who best know their own activities, must determine and report their liabilities (Tiffany Construction). A mere belief that no tax is owed, without further investigation, is negligence. The owner read CYF's contract language putting him on notice, yet assumed — based only on a "Net Amount" column heading, with no mention of tax on the warrant — that CYF was paying his tax, and never called to confirm. The state was not responsible for his underpayment.

The six-year audit was required, not optional

Section 7-1-18(D) lets the Department assess "at any time within six years" when a return understates liability by more than 25 percent. The owner argued the Department should have limited the audit to three years, relying on the word "may." The New Mexico Supreme Court rejected that reading in Bien Mur: once an assessment is authorized, Section 7-1-17(A) makes it mandatory for amounts over ten dollars, and Section 7-1-18(D) gives the Department no discretion to go back only three years instead of six. Estoppel does not shorten the period.

The interest rate is a legislative choice

The owner argued the 15 percent rate was too high. Whether a statute is fair is not for the Department or its hearing officer to decide (State ex rel. Taylor v. Johnson); the hearing officer applies the law as written and cannot modify it based on a taxpayer's circumstances.

Result: protest DENIED. The interest stood.

What this means for you

New Mexico businesses paid by government programs

Selling services to a government agency is generally taxable for gross receipts tax, even though selling food (tangible goods) to the government is exempt. Do not assume a government payment is tax-free; separate the taxable service portion from any exempt goods.

Do not assume the agency is withholding your tax

A "Net Amount" column or similar label does not mean gross receipts tax was withheld on your behalf. If a contract warns you that its payments are taxable, take that at face value and confirm — in writing — before deducting the receipts.

Interest is automatic on any late-paid tax

Even an innocent, unintentional underpayment carries mandatory interest under Section 7-1-67, because you (not the state) had the use of the money. Delay by the auditing agency does not reduce it.

A big understatement means a six-year look-back

If you understate a tax by more than 25 percent, Section 7-1-18(D) lets the Department reach back six years — and under Bien Mur it must, not merely may. Keeping under-reporting from ever exceeding that threshold matters.

Common questions

Q: What was actually protested?
A: Only the interest. The owner paid the gross receipts tax principal and did not dispute it; no penalty was assessed.

Q: Why were the CYF payments taxable?
A: They were payments for day-care services. Sales of services to the government are subject to gross receipts tax; only sales of food (goods) to the government are exempt.

Q: The mistake was innocent — why still owe interest?
A: Interest under Section 7-1-67 is mandatory regardless of intent, because it compensates the state for the time value of the unpaid tax, which the taxpayer had the use of.

Q: Could the Department have limited the audit to three years?
A: No. Because the underpayment exceeded 25 percent, the six-year period in Section 7-1-18(D) applied, and under Bien Mur the Department had no discretion to use only three years.

Q: Was the 15 percent interest rate reviewable as unfair?
A: No. The rate is set by the Legislature, and the hearing officer cannot second-guess that policy choice.

Citations and references

Statutes:

• NMSA 1978, § 7-1-67 — interest on late-paid taxes ("shall be paid")
• NMSA 1978, § 7-1-18(D) — six-year assessment period when a return understates liability by more than 25 percent
• NMSA 1978, § 7-1-17 — a Department assessment is presumed correct; Section 7-1-17(A) makes assessment mandatory over ten dollars
• NMSA 1978, § 7-1-3 — "tax" includes related interest and civil penalty
• NMSA 1978, § 7-1-13(B) — taxpayer's self-reporting obligation
• NMSA 1978, § 7-1-13(E) — interest runs from the original due date even under an extension

Cases cited:

• State v. Lujan, 90 N.M. 103, 560 P.2d 167 (1977)
• Tiffany Construction Co. v. Bureau of Revenue, 90 N.M. 16, 558 P.2d 1155 (Ct. App. 1976), cert. denied, 90 N.M. 255, 561 P.2d 1348 (1977)
• Taxation & Revenue Department v. Bien Mur Indian Market Center, Inc., 108 N.M. 228, 770 P.2d 873 (1989)
• State ex rel. Taylor v. Johnson, 1998-NMSC-015, 961 P.2d 768
• El Centro Villa Nursing Center v. Taxation and Revenue Department, 108 N.M. 795, 779 P.2d 982 (Ct. App. 1989)

Source

• Listing: New Mexico Decisions & Orders
• Decision post: Kid’s Kountry
• Decision PDF: D&O 02-08

Original ruling text

BEFORE THE HEARING OFFICER
OF THE TAXATION AND REVENUE DEPARTMENT
OF THE STATE OF NEW MEXICO

IN THE MATTER OF THE PROTEST OF
KID’S KOUNTRY No. 02-08
ID NO. 02-103871-00-6
ASSESSMENT NOS. 2698908 & 2698909

DECISION AND ORDER

A formal hearing on the above-referenced protest was held April 8, 2002, before

Margaret B. Alcock, Hearing Officer. Kid’s Kountry was represented by Greg Sowards

(“Taxpayer”), its owner. The Taxation and Revenue Department ("Department") was

represented by Javier Lopez, Special Assistant Attorney General. Based on the evidence

and arguments presented, IT IS DECIDED AND ORDERED AS FOLLOWS:

FINDINGS OF FACT

1. From January 1995 through April 2001 (“audit period”), the Taxpayer

operated a day care facility in New Mexico.

2. In addition to providing meals and day care services to the general population

of children, the Taxpayer provided meals and services to children covered by government

programs administered by the New Mexico Children, Youth and Families Department

(“CYF”).

3. Under his agreement with CYF, the Taxpayer received payments for all or a

portion of meals provided to children covered by the program, as well as payments for day

care services provided to the children.

4. The Taxpayer did not understand that while sales of food to the government

are not subject to gross receipts tax, sales of services to the government are taxed. As a
result of his misunderstanding of the law, the Taxpayer paid gross receipts tax on receipts

paid directly by parents, but deducted all of his receipts from CYF.

5. The Taxpayer never consulted with an accountant or an attorney to insure

that his taxes were being reported properly.

6. At some point during the audit period, CYF added language to its contracts

that specifically notified contractors that they were subject to New Mexico gross receipts tax

on payments received from CYF.

7. Although the Taxpayer read this language, he assumed that CYF was

deducting the gross receipts tax from his payments because the warrant form used by CYF

listed the payments under a column heading that read “Net Amount.”

8. The warrant form did not indicate that gross receipts tax had been deducted

from the Taxpayer’s payments, nor did the Taxpayer call CYF to confirm that the agency

was paying the gross receipts tax on his behalf.

9. During the audit period, the Taxpayer received a notice from the Department

questioning whether he had filed gross receipts tax reports for certain months. The

Taxpayer had, in fact, filed such returns and sent copies of his cancelled checks to the

Department. When the Department later requested the same information, the Taxpayer

refused to provide copies of his cancelled checks a second time.

10. The Taxpayer was irritated by this incident, which he termed as “harassment”,

and subsequently attached “post-it” notes to several returns inviting the Department to audit

him. The Department did not respond to these notes.

11. In 2001, the Taxpayer was selected for audit under the Department’s normal

selection process.

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12. The auditor determined that the Taxpayer had erroneously deducted his

receipts from providing day care services to CYF. Because this resulted in the Taxpayer

being more than 25 percent underreported, the auditor extended the audit back six years

pursuant to the provisions of Section 7-1-18(D) NMSA 1978.

13. On September 12, 2001, the Department issued the following assessments of

gross receipts tax, plus accrued interest, to the Taxpayer. No penalty was assessed.

Assmnt # Reporting Periods Gross Receipts Tax Interest

2698908 Jan. 1995-Dec. 2000 $55,355.16 $25,087.51
2698909 Jan. 2001-April 2001 $ 4,512.36 $ 311.42

14. The Taxpayer paid the tax principal. On December 10, 2001, pursuant to an

extension of time granted by the Department, the Taxpayer filed a written protest to the

assessment of interest.

15. By the time payment of the underlying tax was made on Assessment

2698909, an additional $254.07 of interest had accrued. Accordingly, the total amount of

interest in dispute is $25,653.00.

DISCUSSION

The issue to be decided is whether the Taxpayer is liable for the interest assessed

on his late payment of gross receipts tax on his receipts from providing day care services to

CYF during the audit period. The Taxpayer believes that he should be excused from

payment of interest for the following reasons: (1) CYF originally failed to notify him that he

was liable for gross receipts tax on the payments he received and misled him by

designating its payments as the “net amount” due to the Taxpayer; (2) the Department

waited too long to audit the Taxpayer and unreasonably chose to extend its audit to six

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years instead of limiting the audit to the normal three-year period; and (3) the 15 percent

rate used to calculate interest is an unfair penalty on taxpayers.

Section 7-1-17 NMSA 1978 provides that any assessment of tax by the Department

is presumed to be correct. Section 7-1-3 NMSA 1978 defines tax to include not only the

amount of tax principal imposed but also, unless the context otherwise requires, “the

amount of any interest or civil penalty relating thereto." See also, El Centro Villa Nursing

Center v. Taxation and Revenue Department, 108 N.M. 795, 779 P.2d 982 (Ct. App. 1989).

Accordingly, the Department’s assessment of interest is presumed to be correct, and it is

the Taxpayer’s burden to present evidence showing he is entitled to an abatement.

Section 7-1-67 NMSA 1978 governs the imposition of interest on late payments of tax

and provides, in pertinent part:

A. If a tax imposed is not paid on or before the day on which it becomes due,
interest shall be paid to the state on that amount from the first day following
the day on which the tax becomes due, without regard to any extension of time
or installment agreement, until it is paid... (emphasis added).

The legislature’s use of the word “shall” indicates that the assessment of interest is mandatory

rather than discretionary. State v. Lujan, 90 N.M. 103, 560 P.2d 167 (1977). The legislature

has directed the Department to assess interest whenever taxes are not timely paid and has

provided no exceptions to the mandate of the statute. The assessment of interest is not

designed to punish taxpayers, but to compensate the state for the time value of unpaid

revenues. Even taxpayers who obtain a formal extension of time to pay tax are liable for

interest from the original due date of the tax to the date payment is made. See, Section 7-

1-13(E) NMSA 1978.

In this case, the Taxpayer argues that he should be excused from payment of

interest because it was the responsibility of CYF or the Department to insure he was

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properly paying his gross receipts taxes. This argument is based on a misunderstanding of

New Mexico’s self-reporting tax system. It is the obligation of taxpayers, who have the most

accurate and direct knowledge of their activities, to determine their tax liabilities and accurately

report those liabilities to the state. See, Section 7-1-13(B) NMSA 1978; Tiffany Construction

Co. v. Bureau of Revenue, 90 N.M. 16, 17, 558 P.2d 1155, 1156 (Ct. App. 1976), cert. denied,

90 N.M. 255, 561 P.2d 1348 (1977). If a taxpayer does not have adequate knowledge or

information to complete his tax returns, he has an obligation to consult with a qualified

accountant or attorney. In Tiffany Construction, supra, the court held that a taxpayer’s mere

belief that taxes are not owed, without further investigation, constitutes negligence.

Here, the Taxpayer complains that CYF did not properly advise him of his tax

obligations and that the Department waited too long to respond to his requests for an audit.

The evidence shows, however, that the Taxpayer ignored his own responsibility for

determining his tax liability. From the time he began business in 1989 until the time he was

audited in 2001, the Taxpayer never consulted with a tax advisor or engaged an accountant

to audit the Taxpayer’s records and insure he was in compliance with New Mexico’s tax

laws. When the Taxpayer read the language in CYF’s contracts specifically notifying him of

his liability for gross receipts tax on CYF payments, the Taxpayer made no further inquiry.

He simply assumed, based on a column heading on a preprinted form, that CYF was paying

the taxes on his behalf. Even though CYF’s warrant form made no mention of gross

receipts tax and did not show any deduction or withholding of tax, the Taxpayer never called

CYF to confirm his belief that taxes were being paid. Given these facts, there is no basis

for the Taxpayer’s position that the state was responsible for his underpayment of gross

receipts taxes.

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The Taxpayer’s next argument is that the Department should have limited its audit to

three years instead of extending the audit back to 1995. This was not a matter within the

Department’s discretion. Section 7-1-18(D) NMSA 1978 states as follows:

D. If a taxpayer in a return understates by more than twenty-five percent the
amount of his liability for any tax for the period to which the return relates,
appropriate assessments may be made by the department at any time within
six years from the end of the calendar year in which payment of the tax is
due.

The Taxpayer relies on the legislature’s use of the word “may” to argue that the Department

can choose whether to invoke its right to assess taxpayers for the full six-year period. This

argument has already been addressed—and rejected—by the courts. In Taxation &

Revenue Department v. Bien Mur Indian Market Center, Inc., 108 N.M. 228, 231-232, 770

P.2d 873, 876-877 (1989), the New Mexico Supreme Court held as follows:

Bien Mur argues that the Department nevertheless has discretion under
Section 7-1-18 to go back either three years or six years in making an
assessment.... We disagree. Section 7-1-17(A) makes assessment
mandatory when a taxpayer owes more than ten dollars in unpaid taxes; the
various provisions of Section 7-1-18 simply limit the number of years following
the filing of a return during which the Department is authorized to exercise
this mandate. If the Department may make the assessment under one of the
provisions in Section 7-1-18, Section 7-1-17(A) mandates the Department
shall do so when the amount owed is in excess of ten dollars.... Section 7-1-
18(D) does not afford the Department discretion to go back only three years
rather than six when making an assessment, and principles of estoppel do
not affect the Department's application of the longer assessment period.

The Department is bound by this decision, and there is no legal basis for limiting the

Department’s assessment of unpaid tax or interest to three years.

Finally, the Taxpayer argues that the rate of interest imposed by Section 7-1-67

NMSA 1978 is too high and imposes an undue hardship on taxpayers. The fairness or

unfairness of a statute passed by the legislature is not something the Department can

consider. In State ex rel. Taylor v. Johnson, 1998-NMSC-015 ¶ 022, 961 P.2d 768, 774-

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775, the supreme court made the following observations concerning the power of

administrative agencies:

Generally, the Legislature, not the administrative agency, declares the policy
and establishes primary standards to which the agency must conform. See
State ex rel. State Park & Recreation Comm'n v. New Mexico State Authority,
76 N.M. 1, 13, 411 P.2d 984, 993 (1966). The administrative agency's
discretion may not justify altering, modifying or extending the reach of a law
created by the Legislature.

The job of the Department’s hearing officer is to determine whether the Department has

properly applied the law as written. Neither the Department nor its hearing officer has

authority to question the wisdom of the laws passed by the legislature or modify the

application of those laws based on the financial or personal situations of individual

taxpayers.

In this case, the Taxpayer failed to pay gross receipts tax due to the state. Although

this failure was not intentional, the fact remains that the Taxpayer—not the state—had use

of those tax funds during the six-year period at issue. Section 7-1-67 NMSA 1978 requires

interest to be paid for any period of time during which the state is denied the use of the funds

to which it is legally entitled. Accordingly, interest was properly assessed against the

Taxpayers and there is no basis for abatement.

CONCLUSIONS OF LAW

1. The Taxpayer filed a timely, written protest to Assessment Nos. 2698908 &

2698909, and jurisdiction lies over the parties and the subject matter of this protest.

2. The Taxpayer was late in paying gross receipts taxes due to the state, and

interest was properly assessed pursuant to Section 7-1-67 NMSA 1978.

For the foregoing reasons, the Taxpayer's protest IS DENIED.

DATED April 11, 2002.

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