There are no precedents for tax planning during a pandemic when businesses are constantly faced with economic and social uncertainty around how to operate once shelter in place orders are relaxed.
The states have been particularly hard hit as result of the COVID-19 pandemic and face an untenable situation.
First, the increased costs of treating COVID-19 patients have required state legislations to appropriate large sums of money to support relief efforts.1 Next, due to the stay at home orders impacting over 95% of the U.S. population, state revenues from reduced corporate income, sales and license fees are expected to drop an average of 15-25% over the next six months.2 Therefore, it is not surprising that state and local governments are desperate to bridge the deficit gap through either enhanced revenue or reduced spending. However, unlike the federal government, most states are prevented under their constitution from approving a budget deficit.3 As a consequence, many tax professionals are seeing state and local auditors increasingly advancing tax examinations that have been stalled for months, or years.
Despite the enormous adverse fiscal impact, many states are sensitive to the dire economic condition that many businesses are facing from having to shutter their stores, furlough employees and manage supply chain disruption. Many U.S. states have deferred sales and use tax, income tax and license fee payments including abating interest and taxes during this crisis.
In the now often quoted phrase by former presidential chief of staff and mayor of Chicago, "You never want a serious crisis to go to waste. And what I mean is that is an opportunity to do things that you think you could not do before."4
Financial and tax executives should heed this advice and capitalize on what may be a once in a lifetime opportunity to resolve pending issues, recover potential refunds, and at the same time, reduce future years liabilities.
Duff & Phelps' Sales and Use Tax specialists have outlined some sales tax strategies that every company, large and small, may wish to consider:
Negotiating Settlements on Pending Sales Tax Audits
Despite shelter in place orders by all but a handful of U.S. states, government employees in general, and state sales tax auditors in particular, have picked up the pace on many stalled audits. These auditors are eager to put some points on the board and resolve previously fought hard line positions. We are experiencing a new willingness among auditors to revisit prior positions, including taxable versus nontaxable services (e.g. software as a service (SaaS), computer hosting, acceptance of qualifying manufacturing or resale exemptions and statistical sampling methodologies.
Companies should take this opportunity to prioritize any audits that have been outstanding for an extended period and those that can have a significant impact on future periods (even if the current audit result may not be material). We have found that in the last several weeks, auditors are anxious to show progress and close out open audits. Companies should reach out directly to the state representatives to see if pending matters can be resolved including abatement of any penalties, and in some circumstances, even interest.
It also has come to our attention that states are willing to close out certain portions or periods of an exam while leaving the more difficult/controversial issues open for future resolution.
Many states are now also willing to enter into favorable payment terms. But this option will not remain in place indefinitely, so companies should act with a sense of urgency in requesting extensions on payments.
Recover Past Due Taxes
Now more than ever, companies should put energy into seeking sales and use tax refunds. Generally, sales tax refund claims can only be filed by the taxpayer that remitted the tax directly to the state; however, many states allow taxpayers to request a tax refund directly from the state.5 Also, states like Florida and Texas allow purchasers to obtain an assignment of rights from vendors, enabling the purchaser to file claims directly with the state. In addition to favorable tax law changes, companies that benefit from various credits or incentives including state afforded exemptions (e.g., manufacturing exemption, pollution control) should review capital expenditures spend to ensure the correct tax rates were assessed and the right amount of sales tax, if any, was paid. It is equally important that companies with a history of use tax accruals review high dollar items to confirm all available exemptions were exhausted.
Entering into VDA's and Amnesty Agreements
In June 2018, the Supreme Court's decision in South Dakota v. Wayfair (Wayfair) set in motion permission for the states to enforce remote sellers of goods and services without having a physical presence in the state to collect and remit taxes from customers.6 To date, 43 of the 45 states that impose sales tax have adopted economic nexus guidelines requiring remote sellers that exceed certain sales or transaction thresholds to collect and remit tax.
Prior to Wayfair, it was estimated that the lack of an economic nexus standard requiring remote sellers to collect tax caused the states to lose annual tax revenue of up to USD 33 billion per year.7 Despite enormous publicity directed at remote sellers to follow these guidelines, it is estimated that less than 5% of remote sellers have complied. It should be noted that many states have instituted marketplace facilitator statutes or regulatory guidance which require organizations, such as Amazon and Etsy, to collect sales tax on behalf of companies that sell their products and/or services through an online marketplace.8 However, there remains a large population of B2B service providers, particularly in the digital market, that provide information services in the form of SaaS that have not complied with the new economic nexus rules.
Initially, all U.S. states that have enacted economic nexus rules provided a grace period for companies to come forward without retroactive application. Those grace periods expired in 2019. Going forward, remote sellers that fail to conform with the new rules face stiff interest and penalties and are subject to pay the back taxes that otherwise are an obligation of the consumer.
There are several reasons companies may have been hesitant to comply with the new guidelines, including lack of resources to adapt existing billing and point of sale systems to charge the correct tax and hesitancy over consumer resistance to the price increases. However, over the past several years, several service providers have stepped up to assist small and large businesses to adapt their systems and consumers now readily accept sales tax as a cost of buying goods remotely. More importantly, since the COVID-19 outbreak, remote sales have skyrocketed, so businesses' failure to conform to the new rules is a growing liability.
Now is a great opportunity for remote sellers to come forward and enter into one of the voluntary disclosure programs (VDA) offered by the states. In most cases, the look back period would be limited based on the effective date of the state specific economic nexus rules (2018 or 2019), depending on state specific guidelines. Many states have informally indicated a willingness to work with taxpayers in negotiating a payment plan of any back taxes and interest that may be due. Penalties for late tax payments, and on occasion interest, are waived when companies voluntarily come forward.
1 State deficits in some part with be offset by a series of federal legislation including $1.05 billion in grants to reimburse state and local government for costs incurring in treating COVID-19 patients which was part of the March, 18th Families First Coronavirus Aid Package and another $150 billion through the Coronavirus, Aid, Relief and Economic Security Act (CARES) which was signed into law on March 27, 2020. This is in addition to direct increases in funding based on individual state legislators passing increased appropriations for COVID-19 related costs. For state by state appropriations see https://www.ncsl.org/research/fiscal-policy/state-fiscal-responses-to-covid-19.aspx. State Fiscal Responses to Coronavirus (COVID-19). As of the date of this posting Congress is proposing a $1 trillion aid package to assist state and local governments offset the costs of treating COVID-19 patients and lost revenues.
2 California anticipates COVID response to wipe out its $21 billion budget surplus and Illinois predicts COVID-19 impact to cost the state $21 billion. For complete analysis see https://www.multistate.us/insider/2020/4/16/which-states-will-have-immediate-budget-issues-as-a-result-of-covid-19
3 43 states and Puerto Rico require that the governors propose balanced budgets, 39 of the state legislature budgets must be balanced and 37 state budgets must be balanced at the end of the fiscal year. https://www.ncsl.org/research/fiscal-policy/state-balanced-budget-requirements.aspx
4 Rahm Emanuel in response to 2008 fiscal crisis.
5 Arizona, Georgia, Iowa, Indiana, Minnesota, New Jersey, Ohio, Oklahoma, Utah< Vermont, Wisconsin and West Virginia
6 South Dakota v. Wayfair, Inc., et al., No. 17-494 (June 21, 2018) 585 US.
7 per p. 2 of the Supreme Court decision, citing Sales Taxes Report, at 11-12; Brief for Petitioner 34-35 citing estimates of $23 and $33.4 billion
8 The term Marketplace facilitator is defined differently under each of the state guidelines, however an easily understood definition is the Washington DC definition, "Marketplace facilitator" means a person(or company) that provides a marketplace that lists, advertises, stores, or processes orders for retail sales subject to tax ....for sale by such marketplace sellers, and directly or indirectly collects payments from a purchaser and remits payment to a marketplace seller." https://code.dccouncil.us/dc/council/code/sections/47-2001.html
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.