Document Number
03-16
Tax Type
Retail Sales and Use Tax
Description
Bad Debt Collection; employee discounts
Topic
Accounting Periods and Methods
Appropriateness of Audit Methodology
Date Issued
03-11-2003
March 11, 2003


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


Dear *****:

This is in response to your letter requesting correction of the retail sales and use tax assessment issued to ************ (the "Taxpayer") as a result of an audit. I apologize for the delay in the Department's response.
FACTS

The Taxpayer is a national retailer of casual clothing with retail shops in Virginia. An audit for the period March 1999 through December 2001 resulted in the assessment of tax on bad debt deductions, unreported sales, and certain purchases of tangible personal property. The Taxpayer agrees with the use tax assessed on expenses and has paid that portion.

The Taxpayer maintains that the unreported sales did not occur to the extent held in the audit and has proposed a small settlement. The Taxpayer also maintains that there is no legal basis for disallowing the bad debt deductions claimed during the audit period and proposes a small settlement for that issue.
DETERMINATION

Sales

The Taxpayer contests the tax assessed on the unreported sales and claims that "associate [employee] discounts were not taken into consideration when reconciling gross sales to taxable sales." The reconciliation conducted by the Department's auditor was not, however, a comparison between gross sales and taxable sales. Rather, the sales reconciliation compared "gross sales" reported on the sales and use tax returns to "register sales" shown on the sales journals. The Department's auditor noted that the reported gross sales were less than the register sales for the audit period.

The records presented with your appeal reveal that employee discounts are included in "register sales" listed in the sales journal. Examination of those records, however, fails to reveal that employee discounts are included in the "gross sales" amounts reported on the sales and use tax returns for the audit period.

Even assuming that the assessed unreported sales represent the Taxpayer's employee discounts, the total difference between reported gross sales and register sales is still greater than the employee discounts claimed during the audit period. Accordingly, the difference in gross sales and register sales is attributable to unreported sales. In any event, the Taxpayer has not demonstrated the reason for the unreported sales. Pursuant to Va. Code § 58.1-633, the Taxpayer is required to maintain suitable records of its sales, leases, and purchases subject to sales and use taxation and such other books of account as necessary to substantiate its tax liabilities. In this case, the records presented do not show the cause for the unreported sales. Rather, those records support a conclusion that the reported gross sales do not constitute the total of all retail sales made by the Taxpayer without any deductions (except for sales tax). See definition of "gross sales" in Va. Code § 58.1-602.

In regard to exempt sales, Va. Code § 58.1-623(A) provides that "[a]II 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 [from the Virginia retail sales and use tax]."

I understand that the Taxpayer's Virginia stores do make exempt sales but do not keep documentation to support them. Rather, the Taxpayer's stores send daily sales records to the Taxpayer's headquarters. Although requested by the Department's auditor, the Taxpayer failed to provide daily sales packets for each Virginia store to account for each non-taxed transaction. In essence, the Taxpayer has not shown the required exemption certification and, therefore, has not met the burden of proof required for claiming exemptions from the tax.

Based on all of the foregoing, I find no basis to remove the unreported sales from the audit. The evidence presented does not establish that the reported gross sales are correct or that the unreported sales are nontaxable deductions that are in addition to the deductions previously taken on sales and use tax returns. Accordingly, without evidence to the contrary, I must conclude that the unreported sales are taxable.

Bad debts

The Taxpayer contests the tax assessed on bad debt deductions taken for worthless accounts using Taxpayer-issued credit cards. These bad debts were disallowed because the Taxpayer does not compute the bad debts using only the original sales made at Virginia stores and does not use the actual amount of finance charge to arrive at the amount of the bad debt deduction to be claimed. Instead, the Taxpayer states that "all bad debts are written-off in the state where the customer resides." For example, the Taxpayer computes the Virginia bad debts for its credit cards as follows:

· Its credit department produces a monthly spreadsheet showing the bad debts (the number of bad accounts and the dollar amount) to be written off for each state.
· Next, it determines the amount of bad debts for each state by the billing address of the credit card holder, not by the store for which the original sales were made.
· Once the total bad debts for Virginia are determined, it removes the finance charges (using an 8% factor) and the 4.5% sales tax. That result is divided by the number of stores in Virginia. Each store is allocated an equal amount of the bad debt write-off.

The Taxpayer maintains that its bad debt deductions for its Virginia stores are computed in accordance with Va. Code § 58.1-621 and that no statutory authority exists to deny all of the bad debt deductions taken in connection with worthless accounts using the Taxpayer-issued credit card. The Taxpayer further contends that "the bad debts generated by in-state residents making purchases at stores located outside the state are offset by the bad debts generated by out-of-state residents making purchases at in-state stores, plus or minus a very small percentage." While this may or may not be the case, Virginia sales and use tax law does not allow dealers to estimate bad debt deductions. Va. Code § 58.1-621 provides that the deduction for bad debts:
    • shall not exceed the amount of the uncollected sales price determined by treating prior payments on each debt as consisting of the same proportion of sales price, sales tax and other nontaxable charges as in the total debt originally owed to the dealer. [Emphasis added.]

Based on the language of this statute and as interpreted by published regulations and other public documents, the deduction for bad debts is computed on each bad debt and not on the aggregate of all bad debts for a particular period. See Title 23 of the Virginia Administrative Code 10-210-160 and Public Documents 85-29 (2/22/85), 86-160 (7/31/86), and 01-34 (4/09/01). Accordingly, the Taxpayer's computation is inconsistent with the retail sales and use tax laws and regulations, and I cannot approve of the Taxpayer's computation.

I understand that the Department's auditor indicated that the Taxpayer's bad debt procedures did not satisfy the criteria for Virginia retail sales and use tax purposes. I further understand that the auditor suggested sampling procedures to verify the amount of bad debt write-offs for the Taxpayer's Virginia locations. Without a proper comparison made between the Taxpayer's procedure and Virginia's statutory requirement for computing bad debts, the Department cannot determine the degree to which the Taxpayer ":as complied with the tax laws of this state in computing its bad debt deductions.

In regard to your claim that the Department has no statutory authority to deny all of the bad debt deductions related to the Taxpayer's credit cards, Va. Code § 58.1-618 allows an estimated tax assessment to be issued when an inaccurate return has been filed. The statute deems the assessment to be prima facie correct. Furthermore, Va. Code § 58.1-205 deems any tax assessment issued by the Department to be prima facie correct. Accordingly, the burden is upon the Taxpayer to prove an erroneous assessment. The Taxpayer has failed to meet its burden of proof.
CONCLUSION

Based on the facts currently before me, the assessments issued as bill ****** and bill ****** are correct. Consequently, I find no basis to accept any of the Taxpayer's proposals to settle this matter.

In regard to the contested issues, an auditor will contact you shortly to arrange a time for the Department to complete the examination of the Taxpayer's bad debt and employee discount records. If you consent to this final review, then payment of the outstanding balance can be postponed until the auditor's work is completed and the audit revised accordingly, as warranted. In the event the suitable records are not provided to the auditor, the current assessment will be deemed correct as issued.

The Code of Virginia sections, regulations and public documents cited are available online in the Tax Policy Library section of the Department of Taxation's web site, located at www.tax.state.va.us. If you have any questions about this determination, you may contact ***** in the Department's Office of Policy and Administration, Appeals and Rulings, at *****.
                • Sincerely,


                • Kenneth W. Thorson
                  Tax Commissioner


AR/41351R

Rulings of the Tax Commissioner

Last Updated 08/25/2014 16:46