Could a restaurant replace Virginia's reconstructed alcoholic-beverage sales audit with bank-based reports that ABC had not yet verified?

Subject

Taxpayer claims that the ABC audit is inaccurate and overstates the Taxpayer's alcoholic beverage sales.

Plain-English summary

Virginia left the reconstructed sales audit in place unless the restaurant obtained ABC verification of its revised reports. The restaurant had not kept daily sales logs or cash-register tapes, so the Department used mixed beverage annual reports developed in an Alcoholic Beverage Control audit to estimate unreported alcoholic-beverage sales.

The restaurant rebuilt the reports from bank statements, but ABC had not received or verified them. Virginia gave the taxpayer 60 days to provide ABC-verified revised MBAR figures. The Department would then make any warranted audit adjustments; otherwise the existing reconstruction would control.

Virginia separately reduced the penalty. Although comparing the sales-tax returns with the ABC reports showed reported sales below 50% of the estimate, that comparison did not establish willful intent to defraud. The 50% fraud penalty was reduced to the 30% compliance penalty.

What this means for you

• Restaurants should retain daily sales logs, register tapes, monthly reports, and source records supporting alcoholic-beverage sales.
• When records are inadequate, Virginia may reconstruct sales from the best information available.
• A taxpayer's replacement calculation may require verification by the agency that produced the source audit.
• A large estimated understatement does not by itself prove willful fraud under this ruling.

Common questions

Q: Did Virginia immediately accept the bank-based reports?

A: No. ABC had to verify them first.

Q: How long did the restaurant have?

A: 60 days from the determination.

Q: Was the fraud penalty upheld?

A: No. It was reduced from 50% to a 30% compliance penalty.

Citations and references

• Va. Code §§ 58.1-618, 58.1-633, and 58.1-635(A).

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 15-42

Original ruling text

March 18, 2015

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

Dear *:

This is in response to your letter in which you seek correction of the retail sales and use tax audit assessment issued to * (the "Taxpayer") for the period April 2009 through June 2013. I apologize for the delay in responding to your letter.

FACTS

The Taxpayer operates a restaurant and bar. The Taxpayer was assessed tax, interest, and fraud penalty for underreported sales of alcoholic beverages. The assessment was based on mixed beverage annual reports (MBAR) resulting from an audit by the Department of Alcoholic Beverage Control (ABC) for the period in question. Based on an audit performed by the ABC, the Department determined in its audit that the Taxpayer had substantially understated its sales of alcoholic beverages on its monthly retail sales and use tax returns. The Department compared the sales calculated on the Taxpayer's MBAR audit reports to the gross sales reported on the Taxpayer's monthly sales tax return and assessed the difference as unreported sales.

The Taxpayer claims that the ABC audit is inaccurate and overstates the Taxpayer's alcoholic beverage sales. The Taxpayer has reconstructed its MBAR reports using copies of their bank statements and requests that the Department use the revised reports to recalculate underreported sales and revise the audit accordingly.

DETERMINATION

Virginia Code § 58.1-633 states that every dealer required to make a return and collect sales tax "shall keep and preserve suitable records of the sales, leases, or purchases ... taxable under this chapter, and such other books of account as may be necessary to determine the amount of tax due hereunder, and such other pertinent information as may be required by the Tax Commissioner." When a dealer fails to maintain adequate records, the Department is authorized by Va. Code § 58.1-618 to use the best information available to reconstruct a dealer's sales or purchases to determine whether a tax liability exists.

It is my understanding that the Taxpayer had insufficient or incomplete records. The Taxpayer did not maintain daily sales logs or cash register tapes to verify daily and monthly sales. The ABC audit constructed the MBAR reports based on costs of goods sold accounting practices. The MBAR reports supplied to the Department were used in the Department's audit to compare sales made according to the MBAR reports to gross sales reported to the Department on the Taxpayers monthly sales tax returns. Because the Taxpayer failed to maintain adequate records during the audit period to substantiate its actual sales tax liabilities, the auditor used the best information available to estimate the Taxpayer's tax liability.

The Taxpayer has reconstructed revised MBAR reports based on bank statements and claims such bank statements reflect the correct gross sales for each month of the audit period. The Taxpayer requests that its revised MBAR reports be used by the Department to recalculate their unreported sales and revise the audit accordingly. The Department has contacted ABC to confirm receipt and verification of the revised MBAR report. According to ABC personnel, no revised MBAR reports have been received or verified by their audit staff.

Audit Penalty

Virginia Code § 58.1-635 A provides, in pertinent part:

When any dealer fails to make any return and pay the full amount of the tax required by this chapter, there shall be imposed, in addition to other penalties provided herein, a specific penalty to be added to the tax in the amount of six percent if the failure is not more than one month, with an additional six percent for each month, or fraction thereof, during which the failure continues, not to exceed thirty percent in the aggregate.

This section goes on to provide that in the case of filing a false or fraudulent return with the willful intent to defraud the Commonwealth, a fraud penalty of 50 percent of the tax due shall be assessed. Intent to defraud the Commonwealth shall be established when a dealer reports to the Department gross sales of less than 50 percent of the amount actually due.

In the present case, the Taxpayer did not have sufficient records to calculate an accurate sales tax liability; therefore, MBAR reports furnished by ABC were used to estimate the Taxpayers gross sales. While a comparison of the Department sales tax returns submitted by the Taxpayer and the MBAR reports filed with ABC reflect an underpayment of gross sales to the Department of greater than 50 percent, this comparison does not accurately reflect any willful intent by the Taxpayer to the defraud the Commonwealth. For this reason I will agree to reduce the 50 percent fraud penalty assessed in this case to the 30 percent compliance penalty for underreporting of sales tax.

CONCLUSION

The Department's audit was the result of a comparison of MBAR audit reports prepared by ABC auditors, and monthly sales tax returns filed with the Department. The Department's audit resulted in underreported sales to the Department. This audit methodology has proven a reliable measure of gross sales when a Taxpayer is unable to provide acceptable documentation, i.e. , daily cash register tapes, monthly sales report, substantiating gross sales.

Notwithstanding the above, the Department will accept the Taxpayer's revised MBAR report figures once such figures have been verified by ABC The Taxpayer will be allowed 60 days from the date of this letter to provide to the Department verified MBAR reports by ABC.

Upon completion of the ABC's review and the Department audit adjustments, or the expiration of the 60 days, the Taxpayer will be sent an updated bill with interest accrued to date. The Taxpayer should remit payment to: Virginia Department of Taxation, Attention: * 600 E. Main Street, 15 th Floor, Richmond, Virginia 23219.

The Code of Virginia section cited in this letter is available on-line at www.tax.virginia.gov in the Laws, Rules and Decisions section of the Department's website. If you should have any questions about this determination or payment of the audit assessment, you may contact * in the Department's Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Craig M. Burns
Tax Commissioner

AR/1-5790791062.T