Was a fire extinguisher servicer's service-call surcharge taxable, and could it get its audit penalty, amnesty penalty, and interest waived?

Subject

Service Charge : Surcharges for Recouping Expenses Administration: Penalty -Compliance (3rd Generation Audit), Amnesty; Interest

Plain-English summary

A business that sells and services fire extinguishers was audited by the Virginia Department of Taxation and assessed sales tax on its "service call" fees for the period November 2015 through September 2018. This was the taxpayer's third-generation audit -- meaning the Department had already audited the same taxpayer at least twice before. In an earlier audit, the taxpayer had contested the taxability of similar charges (then billed as a "surcharge") and had changed its billing description from "surcharge" to "service call fee" afterward, believing that relabeling the charge would change how it was taxed. The taxpayer said it based that belief on a conversation with the prior auditor, before the Department had issued written guidance.

The Tax Commissioner found no basis to adjust the assessment. Relying on the Department's prior determination, the ruling explains that a charge to recoup the taxpayer's own increased costs -- for gas, employee insurance, and employee travel time -- is subject to sales tax regardless of what the charge is called on the invoice; simply renaming a "surcharge" as a "service call fee" does not change the tax result. The taxpayer also asked the Department to waive the mandatory compliance (audit) penalty, the amnesty penalty, and interest. The Commissioner denied all three requests: the compliance penalty was mandatory because the taxpayer's use tax compliance ratio (29%) fell well below the 85% threshold required for third-and-later-generation audits (even though its sales tax compliance ratio was 97%); the amnesty penalty applied because the taxpayer had unpaid, amnesty-eligible liability from an ongoing field audit period predating the 2017 Tax Amnesty Program's cutoff; and interest is not a penalty but simply the mandatory charge for the taxpayer's use of money properly owed to the Commonwealth. The assessment was sustained as correct in full.

What this means for you

Relabeling a charge does not change its tax treatment

If a charge exists to recoup your own business costs -- like fuel, employee benefits, or travel time built into a service call -- Virginia will tax it the same way whether you call it a "surcharge," a "service call fee," or something else. The Department looks at the substance of what the charge recovers, not the label on the invoice line.

Compliance penalties on repeat audits get harder to avoid

For third and later "generation" audits (i.e., a business that keeps getting audited and found out of compliance), Title 23 VAC 10-210-2032 B requires a much higher compliance ratio -- 85% for both sales tax and use tax -- before the mandatory audit penalty can be waived. A strong sales tax compliance ratio will not save you if your use tax compliance ratio misses the mark, as happened here (97% sales tax versus only 29% use tax).

Amnesty penalties and interest are largely non-negotiable once assessed

The 2017 Tax Amnesty Program penalty (an additional 20% on unpaid, amnesty-eligible liability) applies automatically to liability tied to periods that were eligible but went unpaid, and the Commissioner found no cause to waive it here. Likewise, interest under Va. Code § 58.1-1812 is not treated as a punitive penalty at all -- it is a mandatory charge for the taxpayer having had use of money that was properly due to Virginia, so it is essentially never eligible for discretionary waiver on that basis alone.

Common questions

Q: Did the taxpayer succeed in getting the assessment reduced?
A: No. The Tax Commissioner found no basis for adjusting the tax assessed on the service call fees and held the assessment, including the compliance penalty, amnesty penalty, and interest, correct as issued.

Q: Why was the "service call fee" taxable if it wasn't labeled a surcharge?
A: Because the underlying charge still recouped the taxpayer's increased costs for gas, employee insurance, and employee travel time. The Department had already determined in a prior audit that such recoupment charges are taxable, and renaming the fee from "surcharge" to "service call fee" did not change that outcome.

Q: Why couldn't the taxpayer get the compliance penalty waived?
A: Because this was a third-generation audit, the taxpayer needed a compliance ratio of at least 85% for both sales tax and use tax under Title 23 VAC 10-210-2032 B. Its sales tax ratio was 97%, but its use tax ratio was only 29%, so the mandatory penalty applied.

Q: What was the amnesty penalty about, and why did it apply?
A: The 2017 General Assembly created a Tax Amnesty Program (see P.D. 17-156) giving taxpayers with delinquent, amnesty-eligible returns a chance to pay without the extra amnesty penalty. Any amnesty-eligible liability left unpaid is subject to an additional 20% amnesty penalty on top of other penalties. Because the taxpayer had unpaid liability from an amnesty-eligible period (an ongoing field audit period through April 2017), the 20% amnesty penalty applied.

Q: Was the interest charge really a penalty for noncompliance?
A: No. The ruling explains that interest under Va. Code § 58.1-1812 is mandatory and is not a penalty -- it simply compensates the Commonwealth for the taxpayer's use of money that was properly owed over time.

Q: What happens next after this determination?
A: The Department said a revised bill with interest accrued to date would be mailed to the taxpayer, and no additional interest would accrue if the outstanding balance was paid within 30 days of the bill's date.

Citations and references

Statutes and regulations:

• Va. Code § 58.1-1821 (application for correction of assessment)
• Va. Code § 58.1-1812 (mandatory application of interest to tax assessments)
• Title 23 VAC 10-210-2032 B (mandatory audit penalty; compliance ratios required for third and subsequent generation audits)

Related public documents:

• P.D. 17-156 (9/5/2017) (Guidelines for the Virginia Tax Amnesty Program)

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 20-191

Original ruling text

November 24, 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 November 2015 through September 2018. I apologize for the delay in responding to your letter.

FACTS

The Taxpayer is primarily engaged in the sale and service of fire extinguishers. In a previous audit, the Taxpayer contested the taxability of service call fees. At that time, the Taxpayer believed the service call fees were taxed based on the term used. As a result of the Department’s recent audit, the Taxpayer was assessed sales tax on the service call fees. The Taxpayer is contesting the assessed tax based on a conversation with the prior auditor before written guidance was provided by the Department. This is a third generation audit and the Taxpayer also requests the waiver of the penalty and interest.

DETERMINATION

Prior Audit

In a prior letter, the Department determined the following:

As a result of the audit, the Taxpayer changed its billing from a ‘surcharge’ back to a “service call” fee. As addressed above, the charge to recoup the increased cost of gas, employee insurance, and employee travel time is subject to the tax. Therefore, changing the billing from a surcharge to a service call fee does not alter the application of the tax on such charges. The Taxpayer is expected to collect the sales tax on the charge to recoup such expenses regardless of whether the charge is billed as a surcharge or service call fee.

Based on the prior guidance from the Department, the Taxpayer should have followed the instructions as stated above and charged the sales tax on the service call fees. Therefore, I find no basis for adjusting the tax assessed on the charges in the current audit.

Compliance Penalty

Pursuant to Title 23 of the Virginia Administrative Code 10-210-2032 B, the application of penalty to audit deficiencies is mandatory and its application is generally based on the compliance ratios determined during the audit. For third and subsequent generation audits, the Taxpayer’s compliance ratio must meet or exceed 85% for sales tax and 85% for use tax. The Taxpayer’s sales tax compliance ratio is 97% and its use tax compliance ratio is 29%. Based on the use tax ratio, the compliance penalty was properly applied and there is no basis for waiver.

Amnesty Penalty

The 2017 General Assembly enacted legislation establishing a Tax Amnesty program, spanning a 60-75 day period that was administered by the Department. The Guidelines for the Virginia Tax Amnesty Program are addressed in Public Document 17-156 (9/5/2017). Taxpayers with delinquent returns for amnesty-eligible periods qualified for amnesty 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 is the month of April 2017 and prior. Accordingly, the amnesty penalty was properly applied and I do not find cause for waiver in this instance.

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 use of the money that was properly due the Commonwealth.

Based on this determination, the assessment is correct. A revised bill, with interest accrued to date will be mailed shortly to the Taxpayer. No additional interest will accrue provided the outstanding assessment is paid within thirty days of the date of the bill. Please remit payment within 30 days from the date of the bill to: Virginia Department of Taxation, Office of Tax Policy, Appeals and Rulings, Attn: *, Post Office Box 27203, Richmond, Virginia 23261-7203.

The Code of Virginia section, regulation, and public document cited are 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 regarding this response, you may contact * in the Department’s Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/1885L

Related Documents

17-156