Can a cigarette retailer avoid a sales tax assessment on untaxed cigarette purchases by claiming someone else made the purchases without the business's knowledge?

Plain-English summary

A retailer of cigarettes was audited under Virginia's cigarette compliance program, which cross-checks distributor sales records against a retailer's own reported sales and use tax. That cross-check showed the retailer had purchased cigarettes from two distributors exempt of sales tax, on the understanding that the cigarettes were bought for resale. Because the retailer's own reporting did not account for that inventory being resold with tax collected and remitted, the Department of Taxation issued a sales and use tax assessment for the period August 2014 through November 2014.

The Department first sent the retailer a summary of its findings in October 2015 and gave it 14 days to produce documentation showing either that the purchases qualified for the resale exemption or that sales tax had in fact been collected and remitted on the eventual sales. The retailer did not respond within that window, and the assessment was issued. When the retailer later contested the assessment, it argued that the cigarette purchases from the distributors were made without its knowledge or permission — in effect, that someone else had used its business identity to buy the cigarettes.

The Tax Commissioner rejected that defense. Virginia law places the burden on the dealer to prove a sale is not taxable, generally by keeping proper exemption certificates and complete sales and purchase records; when records are inadequate, the Department may use the best information available — here, the distributors' own sales documentation — to reconstruct the retailer's tax liability. Because the retailer supplied no documentation to substantiate its claim that the purchases were fraudulent or unauthorized, and because a Department assessment is presumed correct until the taxpayer proves otherwise, the Commissioner found the retailer had not met its burden. The assessment, along with accrued interest, was upheld in full.

The ruling also confirms that interest on an assessment is not a penalty — it simply compensates the Commonwealth for the taxpayer's use of money that was properly owed — so there was no basis to waive it once the underlying tax assessment was found correct.

What this means for you

If you are a retailer who believes purchases were made fraudulently in your business's name

A bare assertion that you didn't authorize certain purchases is not enough to overturn a tax assessment. You need contemporaneous documentation — records showing the purchases were unauthorized, reported to distributors or law enforcement, or otherwise verifiably outside your control — submitted promptly when the Department requests it. Waiting until after an assessment is issued to raise the claim, without supporting proof, will not meet your burden.

If you sell products subject to resale exemptions (like cigarettes)

Keep and preserve exemption certificates and complete records of purchases, sales, and inventory for at least three years, as required by Virginia's recordkeeping rules. If you cannot produce records showing tax-exempt purchases were properly resold with tax collected, the Department can reconstruct your liability using the best information available, including sales data obtained directly from your distributors or suppliers.

If the Department sends you a compliance notice with a response deadline

Respond within the time given. In this case, the retailer's failure to respond to a 14-day document request contributed directly to the assessment being issued as proposed, and the retailer was then left trying to overcome the legal presumption that the assessment is correct.

Common questions

Q: Does claiming "identity theft" or unauthorized use automatically excuse a business from a sales tax assessment?
A: No. The taxpayer must still prove the claim with documentation. Here, the retailer offered no evidence that the purchases were fraudulent, so the Commissioner found the assessment stood.

Q: Who has the burden of proving a sales tax assessment is wrong?
A: The dealer (taxpayer) does. Virginia Code § 58.1-205 makes an assessment prima facie correct, and § 58.1-623 places the burden of proving a sale was not taxable on the dealer unless a proper exemption certificate was taken.

Q: What can the Department do if a retailer's own records don't show what happened to exempt purchases?
A: Under Virginia Code § 58.1-618, the Department may use the best information available — such as sales records obtained from the retailer's distributors — to reconstruct the retailer's sales or purchases and determine tax due.

Q: Is interest on an upheld assessment a penalty that can be waived?
A: No. Virginia Code § 58.1-1812 requires interest on any tax assessment, and the Commissioner explained it simply compensates the Commonwealth for the taxpayer's use of money it should have remitted — it is not a penalty subject to waiver.

Citations and references

• Va. Code § 58.1-1821 — application for correction of an assessment (basis for the taxpayer's appeal)
• Va. Code § 58.1-602 — defines "retail sale" and excludes sales for resale
• Va. Code § 58.1-623 — requirements for exemption certificates; burden of proof on the dealer
• 23 VAC 10-210-280 — proper use of exemption certificates; incomplete or invalid certificates are never acceptable
• Va. Code § 58.1-633 — dealer's duty to keep and preserve suitable sales and purchase records
• 23 VAC 10-210-470 — detailed recordkeeping requirements, including a three-year retention period
• Va. Code § 58.1-618 — Department's authority to use best information available when records are inadequate
• Va. Code § 58.1-205 — assessments are deemed prima facie correct
• Va. Code § 58.1-1812 — mandatory interest on tax assessments

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 20-140

Original ruling text

August 18, 2020

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 the correction of the retail sales and use tax assessment issued for the period August 2014 through November 2014. I apologize for the delay in responding to your letter.

FACTS

The Taxpayer is a retailer of cigarettes. The Department utilizes a compliance program that verifies retail sales and use tax compliance regarding cigarettes purchased for resale and sales of cigarettes by a retail or wholesale dealer. As a result of the compliance program, the Taxpayer was issued an assessment for tax and interest on untaxed cigarettes purchased from * and *** (the “Distributors”). The assessment is based on sales information provided by the Distributors, identifying the Taxpayer’s purchases of cigarettes exempt of the tax for resale.

It is the Department’s position that the cigarettes purchased by the Taxpayer for resale would have been sold to the Taxpayer’s customers and, therefore, the sales tax should have been collected and remitted to the Department on such sales. Based on the sales information provided by the Distributors, it was determined that the Taxpayer underreported sales of cigarettes, by the amount of the cigarettes purchased from the Distributor for resale.

On October 26, 2015, the Department sent the Taxpayer a summary of the findings and the proposed tax liability. The Taxpayer was allowed 14 days to provide documentation to substantiate whether the Taxpayer’s purchases from the Distributor qualified for the resale exemption or whether the Taxpayer collected and remitted the sales tax on the sale of those purchases. The Taxpayer failed to respond to the Department’s request for documentation within the allotted time and the assessment was issued.

The Taxpayer contests the sales tax assessment and claims that purchases of cigarettes from the Distributors were made without the Taxpayer’s knowledge or permission. The Taxpayer states that it has no knowledge of the business and should not be held liable for the assessment.

DETERMINATION

Purchases/Sales

The resale exemption provided under the Virginia retail sales and use tax is found in Virginia Code § 58.1-602. This code section excludes a sale for resale from the definition of a “retail sale,” which is defined as “a sale to any person for any purpose other than for resale in the form of tangible personal property or services taxable under this chapter.”

Virginia Code § 58.1-623 sets forth the requirements for the proper use of exemption certificates and, in section A, provides that “[a]ll sales or leases are subject to the tax until the contrary is established. The burden of proving that a sale, distribution, lease, or storage of tangible personal property is not taxable is upon the dealer unless he takes from the taxpayer a certificate to the effect that the property is exempt under this chapter.”

Title 23 of the Virginia Administrative Code (VAC) 10-210-280 provides further explanation of the proper use of exemption certificates. Subsection A states that a certificate that is incomplete, invalid, infirm or inconsistent on its face is never acceptable, either before or after notice.

Virginia Code § 58.1-633 A provides 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."

The record keeping requirement is further explained in Title 23 VAC 10-210-470 as follows:

Every person who is liable for collection of sales tax or remittance of use tax or both is required to keep and preserve for three years adequate and complete records necessary to determine the amount of tax liability. Such records must include . . . A daily record of all cash and credit sales, including sales under any type of financing or installment plan in use. A record of the amount of all merchandise purchased, including a bill of lading, invoice, purchase order or other evidence to substantiate each purchase. . . A record of all deductions and exemptions claimed in filing sales or use tax returns., including exemption and resale certificates, returned or repossessed goods, and bad debts . . . A record of all tangible property used or consumed in the conduct of the business . . . A true and complete inventory of the stock on hand and its value, taken at least once each year. Records must be open for inspection and examination at all reasonable hours of the business day by the Department of Taxation.

When a dealer fails to maintain adequate records, the Department is authorized by Virginia 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.

In this instance, the documentation provided by the Distributors show that the Taxpayer purchased cigarettes exempt of the tax for resale. The cigarette sales records provided by the Distributors show that the Taxpayer made cigarette purchases totaling $* exempt of the tax that are not supported by any resale exemption or tax reporting documentation.

The assessment is calculated on the cost price of the cigarettes based on the sales documentation provided by the Distributors, as this was the best information available. A notice was sent to the Taxpayer on October 26, 2015 of the Department’s findings regarding the Taxpayer’s exempt purchases of cigarettes, and a request for documentation was made to substantiate the exempt resale of such cigarettes. While the Taxpayer denies that it purchased such cigarettes, the information provided by the Distributors shows that the Taxpayer purchased the contested cigarettes exempt of the tax for resale from the Distributors. Lacking supporting documentation that the contested cigarettes were purchased fraudulently, I find that the audit assessment is correct.

Virginia Code § 58.1-205 sets out that any assessment of a tax by the Department is deemed prima facie correct. This means that the burden of proving the assessment is erroneous is upon the Taxpayer. Based on the foregoing, the Taxpayer has not met this burden.

Interest

Virginia Code § 58.1-1812 mandates the application of interest to any tax assessment. Interest is not assessed as a penalty for noncompliance with the tax laws. Rather, it simply represents a fee for the use of money over a period of time. In this case, the Taxpayer had the use of the money that was properly due the Commonwealth. Therefore, I find no basis to waive the interest assessed as a result of the Department's audit.

CONCLUSION

The assessment is upheld as issued. An updated bill, with interest accrued to date, will be sent to the Taxpayer. The outstanding balance should be paid within 60 days of the bill date to avoid additional interest charges. Please remit payment to: Virginia Department of Taxation, 600 E. Main Street, 15th Floor, Richmond, Virginia 23219, Attn: *. If you have any questions concerning payment of the assessment, you may contact at **.

The Code of Virginia sections and regulations cited, along with other reference documents, are available on-line at www.tax.virginia.gov in the Laws, Rules, and Decisions 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,

Craig M. Burns

Tax Commissioner

AR/669L