Once you have determined you have a past state tax exposure, how do you handle this issue in the most efficient and effective manner? The issue could be delinquent state income tax or sales/use tax, but the options available for handling are the same.
Voluntary Disclosure Agreement
The most common method for handling past state tax exposure is a voluntary disclosure agreement (VDA). Generally, every state that imposes a state income tax and/or sales/use tax has a VDA available. Some states might call it by a different name — voluntary compliance agreement, managed audit — but they more or less function alike. To qualify for a VDA, the taxpayer cannot have been previously contacted by the state for noncompliance with its tax laws. There are other requirements before a taxpayer can participate in a VDA, but this is generally the most common requirement that will kick taxpayers out of a VDA.
Under a VDA, the company will approach the state in an anonymous request to enter into a VDA. It is highly recommended that a third party handle the VDA so that the state does not know who the taxpayer is. There are a few states that do not permit an anonymous VDA, but it is still highly recommended to utilize a third party to manage the VDA process and interact with the state.
Also, under a VDA a shorter look-back period is enforced. For example, you might have been operating in a state for 10 years when it is determined that you should have been filing state income tax returns there. Under a VDA you will not have to go back all 10 years; often the lookback period is only three or four years. The shorter lookback period will apply whether it is a VDA for sales tax or state income tax.
The only time a shorter lookback period will not apply under a VDA is if the taxpayer collected sales tax and did not remit the tax collected. A VDA for sales tax collected and not remitted will require the taxpayer to go back to the first date that sales tax was collected. Generally, if the VDA is for sales tax collected but not remitted, penalties will still be imposed in addition to tax and interest.
The final step of a VDA is to file all back returns as required by the VDA agreement. The taxpayer that comes forward under a VDA must also agree to register with the state and continue to comply with state tax laws on a go-forward basis. As part of the VDA, the state will indicate that all returns filed as part of a VDA are subject to audit.
Another option to address past tax exposure is amnesty. States do not always offer amnesty; it must be adopted by the state legislature and generally is only offered for a certain period of time. Generally under amnesty, penalties are abated and you will only be subject to tax due and interest. Some states might also abate half of the interest that might normally be assessed.
If a taxpayer is coming forward under amnesty to fix past tax issues, it is not done on an anonymous basis—the taxpayer is known to the state. Often under amnesty a state might notify taxpayers who have delinquent filings, or other tax issues, informing them of amnesty so that they can come forward and address all delinquencies. Generally, the only time a taxpayer might not be eligible to participate in a state’s amnesty program is if the taxpayer has previously participated in an amnesty program offered by that state.
The most significant difference between amnesty and a VDA is the fact that the taxpayer coming forward is not anonymous if past filings are done through amnesty. These are the best options available for a taxpayer to address a taxpayers past exposures.
The Skoda Minotti SALT team works across state lines to provide clients with the tax guidance they need in areas including income and franchise tax, indirect tax, and credits and incentives. Email Mary Jo Dolson, CPA or call her at 888-201-4484 to learn more about how these taxes affect your business.
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