Busted for Not Filing Proper Multistate Tax Returns—Now What?

In the article, Gotcha! How a state finds a non-filer, we addressed how a state may find out a company is active within its borders. Read on to learn what you can do once you get caught!

You know that moment when you see the lights flashing behind you and your stomach drops because you realize you are getting pulled over? For a split second, you consider using the argument that you were just keeping up with the flow of traffic—until you realize that excuse is not going to cut it. That’s kind of how it is when a state catches up to you for not filing the proper sales, use, income, or franchise tax returns within its jurisdiction. Colleagues in your industry may be doing the exact same thing as you, but you got busted, and unfortunately, much like getting pulled over, you are the only one dealing with the consequences. Luckily, help is available.

The Ticket or Written Warning

It starts with an all-too-familiar process. A state, through a letter demanding a response or through a nexus questionnaire, notifies a company that it knows of the company’s existence. If your company receives correspondence, it is best to involve your trusted business advisor as soon as possible. The key is making sure the response to the state contains no more or no less information than is needed to answer the required questions.

Having another set of eyes reviewing the initial correspondence to the state can be a game changer. For example, a company might have sales tax nexus in a state where it has a salesperson who solicits only sales of tangible personal property; however, the company may be protected from income tax filings under Public Law 86-272 because the orders are accepted back in the home office. A company that has an internal resource or knowledgeable advisor would be equipped to respond to the state, explaining why the company does not have a filing requirement in the state. To the extent a company does have nexus, and if the state comes back with a request to file back returns, a trusted advisor can help manage the process of getting the company into compliance with the state—whether that involves helping the company piece together the records needed to comply with the state’s demands, helping the company understand the new functions needed internally to maintain the necessary records, or requesting abatement of penalties. By having the requisite knowledge of the tax laws, a trusted advisor can help minimize the imposition of unwarranted taxes, interest, and penalties.

Once a company is caught, its options for dealing with that state are limited. When a company has never filed in the state, no statute of limitations is imposed on the number of years a state can demand prior filings for. In addition, penalties and interest are imposed for late filing of tax returns and late payment of taxes. Often, the interest and penalties can equal or be greater than the tax owed to the state.

Time for a Radar Detector

Some people who enjoy driving fast purchase a radar detector. With this tool, they know when to push the accelerator, pump the brakes, or obey all posted speed limit signs! Similarly, companies can engage the services of a state and local tax consultant to help identify taxing jurisdictions that may catch them down the road. By evaluating the multistate activities of a company, a state and local tax expert can identify states that are able to impose their taxes on the company and can also quantify the potential tax exposure. The company will then have the information needed to determine whether it should continue the status quo of not filing returns, begin filing with a state prospectively, or proactively approach the state to satisfy the tax liabilities through a voluntary disclosure or active amnesty program. Companies evolve over time, and business channels change. It is extremely prudent to proactively review state tax filing positions and multistate activities on a regular basis.

Where a company chooses to file is a business decision. There are risks associated with filing in a state on a prospective-only basis. The statute of limitations does not start until a tax return is filed. Therefore, if there are large outstanding tax liabilities for prior years, a state can still go back and request the prior-year returns to the extent nexus exists. However, for states with low tax exposure, companies will at times weigh the cost benefit of filing returns prospectively and will live with the risk.

When a company desires to proactively approach a state to come into compliance with the state’s various taxes, it can do so anonymously (in most states) through a voluntary disclosure agreement. The benefits to entering a state under a voluntary disclosure agreement include the abatement of penalties and an average, limited lookback period of four years. The state agrees to not go back further than the stipulated time period, and the taxpayer agrees to continue to file prospectively in the state as long as the filings are required.

Ultimate Destination

Determining which path to take is easier to navigate when working with a state and local tax consultant. Providing certainty about where filings are required puts the decision of how to approach the filings into the hands of the company. So, as we ramp up to 2018, put the uncertainty of multistate taxation in the rearview mirror.