Alabama Tax Tribunal Upholds Fraud Penalties in Recordkeeping Case

In a decision on September 15, 2023, the Alabama Tax Tribunal ruled against a taxpayer’s audit appeal and affirmed both the Department of Revenue’s assessment of additional tax due and the fraud penalty that was assessed on the basis of the taxpayer’s underreporting of sales and inconsistent records.

The audit in question was of a small convenience store and gas station, and the auditor’s supervisor testified that the taxpayer’s accountant had provided the department with bank records and purchase records, but that the department was unable to use the bank records to determine if sales tax was accurately reported because the taxpayer also used the account to cash customer checks and deposit funds from sales of gasoline. The Department observed that the records of inventory purchased for resale exceeded the amount of sales reported during the audit period and used a standardized 35% markup on purchases for resale to estimate sales in excess of tax reported.

After the audit was completed, the taxpayer provided the department with cash register records known as z-tapes for a portion of the audit period, which were also what were used to prepare the original sales tax returns, but the auditor determined them to be inaccurate due to the fact that they did not reasonably match with other records or reflect a profit that would reasonably cover the business’s operating expenses. In response, the taxpayer argued that the records not provided during the audit were due to his being out of the country and being physically stored in a locked location the accountant could not access, and that missing records appear to have been misplaced or damaged in a flood that affected the back room of the business. The taxpayer also stated that the reason vendor purchases exceeded sales may be partially due to theft and money borrowed to operate the business.

The Tax Tribunal decided in favor of the Department of Revenue’s assessment, agreeing that the records used to prepare the returns did not logically coordinate with the other records and the expenses of the business and that the evidence was sufficient to prove the business was underreporting. The Tribunal also agreed with the assessed fraud penalty based on the inconsistency of the records.

Like in other states, Alabama requires taxpayers to maintain adequate records for examination upon request for audit purposes. Though this is a standard part of doing business, the exact records you maintain and how they tie to one another is often as important as actually maintaining the records used for preparing returns themselves. Often auditors will reference purchases, income tax filing, or reasonableness standards to determine if sales tax records may be incomplete or in conflict with other reported operations of the business. Even for businesses with no intention of underreporting sales tax, making sure that your sales tax records clearly tie to your other business records can eliminate the threat of an unexpected assessment under audit. (Masrath International, Inc. v. Alabama Department of Revenue, Alabama Tax Tribunal, No. S. 19-1335-JP, September 15, 2023)

Posted on October 16, 2023