How to Survive a Tax Audit as a Car Dealership When You Cheated on Your Federal (IRS) or California Income (FTB), Payroll (IRS/EDD), or Sales Taxes (CDTFA) and Underreported Your Income as a Car Dealer

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On April 17, 2019, the California Department of Tax and Fee Administration (CDTFA) issued the following update:

Los Angeles County Auto Dealership Owner Sentenced for Sales Tax Evasion

The CDTFA had begun its investigation in 2013 when it was discovered that Mr. Sam Sebuh Matioz Goncuoglu, the owner of F.A.S.T., LLC DBA Daytona Cars, failed to report a large number of sales from his retail auto dealership. The dealership operated at multiple locations in Los Angeles and South Gate. Mr. Goncuoglu failed to report $8.5 million in taxable sales, resulting in $758,495 in unreported sales tax from 2007 through 2012. He was sentenced in Los Angeles County Superior Court to five years of formal probation and ordered to pay $758,495 in restitution to the CDTFA. The case was prosecuted by Deputy District Attorney James Belna of the Los Angeles County District Attorney’s Office, Major Fraud Division. Funds in the amount of $300,000 were received, and the remaining balance was ordered to be paid in instalments.

We are here to tell you how you can avoid following in the footsteps of Mr. Goncuoglu. Please be aware that IRS has developed several information sources on car dealers; detailed information about accounting and inventory methods in the car industry, and an extensive glossary of industry jargon; techniques for dealing with problem situations in audits, such as the lack of adequate records; and many very specific audit flags that would lead the examiner to probe more deeply. However, rest assured that, using our in-depth understanding of all these resources, we are able to identify areas of audit scrutiny for you and help you adjust your practices and recordkeeping to avoid or minimize potential problems.

How is My Liability Computed?

California imposes sales tax on a car dealer’s retail sales of cars sold in the state, measured by the car dealer’s gross receipts, unless the sale is specifically exempt or excluded from taxation by statute. For the proper administration of the Sales and Use Tax Law and to prevent the evasion of the sales tax, the law presumes that all gross receipts are subject to tax until the contrary is established. It is your responsibility to maintain complete and accurate records to support reported amounts and to make them available for examination.

If IRS or CDTFA is not satisfied with the amount of tax reported by you, they may determine the amount required to be paid by you based on any information which is in its possession or may come into its possession. In the case of an appeal, the tax authorities have a minimal, initial burden of showing that its determination was reasonable and rational. Once they meet this initial burden, the burden of proof shifts to you to establish that a result differing from their determination is warranted; unsupported assertions will not be sufficient to satisfy a taxpayer’s burden of proof.

We can help you if you have failed to maintain or provide normal books of account, such as sales journals and purchase journals, sales tax worksheets used in connection with the preparation of your sales and use tax returns (SUTRs), or source documentation such as deal jackets. If you omitted to do any of the above, CDTFA would be unable to verify sales reported on your sales and use tax returns (SUTRs) for the liability period using a direct audit method, i.e., compiling audited sales directly from your records. Under these circumstances, it would be deemed reasonable for CDTFA to question reported sales and use an indirect audit method to compute your sales. If you do not engage services of experts in this area, often, CDTFA will be found to have met its initial burden to show that its determination was reasonable and rational, and the burden of proof then shifts to you to show errors in the audit.

What if I Know I Cheated on My Taxes and the IRS or California CDTFA FTB or EDD Wants to Speak with Me?

We would not be very good at what we do if we did not truly understand how the IRS and California Tax authorities function and run their civil audits and criminal tax investigations. We are well conversant with the background information that IRS, CDTFA, FTB and EDD has on the industry and how it familiarizes and trains its examiners with the issues they need to understand when auditing or criminally investigating / prosecuting you.

The initial interview is crucial in all tax examinations & investigations. Examiners are given several standard questions to begin their initial interviews at these audits and are instructed about specific industry-related questions that should be included as part of the interview process. These questions are meant to help the examiner understand how you operate and determine the scope and depth of the examination / investigation. Examiners are reminded, however, to be flexible and to adapt the line of questioning to your responses.

Topics covered include questions about your internal controls, especially on how cash is handled. Agents will inquire about types of sales transactions for the year under examination; other sources of revenue, such as interest income on your financed sales, rebates, consignments, or referral fees; how sales are recorded; how often deposits are reconciled to income; cash expenses; treatment of customer deposits; trade-ins; warranty program sales; financing income and sales of financing contracts; pricing policies and discounts; inventory practices; expense issues; whether you and family members drive cars off the lot, and whether personal use of vehicles is included in income. To help you get a better idea, we include here some of the important questions that, in our experience, can prove instrumental.

Income Sources:

What types of sales transactions did your dealership have for the year under examination?
Sales at auctions? If yes, which auctions? Identify any out-of-state auctions?
Sales to wholesalers? If yes, which wholesalers? Identify any out-of-state wholesalers?
Sales to other dealers? If yes, which dealers?
Consignment sales? If yes, what was the volume?
Were there any scrap sales? If yes, the examiner will inspect the details.
Did your dealership engage in any in-house financing of vehicle sales?
The examiner will try to identify any in-house financing notes sold to a third party.
The examiner will request a description and flow chart of your financing operations.
The examiner will ask you to describe and provide examples of vehicle financing with the third-party finance company, including related and unrelated finance companies. If a related finance company (RFC) is involved, the examiner will try to determine ownership and consider whether transactions with the RFC are at arms-length.
How did your dealership account for interest earned on dealer-financed sales?
Did your dealership receive commissions or referral fees on third-party financing? If so, the examiner will review the accounting.
Did your dealership sell insurance products? If so, what types?
Did your dealership earn commissions or referral fees on vehicle insurance placement? If so, review the accounting?
Identify any insurance companies that you used?
What was the fee/commission arrangement?
Did your dealership sell extended warranty, service, or maintenance contracts? If so, what types and from what companies?
The examiner will request a detailed description, sample copies of all products sold, and a flow chart including initial sale to the customer and all subsequent transactions.
Are there other income sources? If so, describe.

Sales:

Are sales taxes reported in the gross sales price?
Are licensing fees or titling fees included in the sales price? (Note; if the answer is no, the examiner will look for them as expense items.)
If you assign a value to a trade-in vehicle that is over market value to make a sale of a vehicle to a customer, how do you record it on the books? How do you record this paper loss?

Inventory Items:

When setting an initial inventory value for a vehicle, what information sources are used? If a used vehicle guide is used, which one? Are any other guides used? If so, what is their purpose?
If you assign a value to a trade-in vehicle that is over market value to make a sale of a vehicle to a customer, how do you record it on the books?
Is the inventory value ever changed? If so, the reasoning for such a change? How is it reported for the books?
Are there inventory write-downs at year-end? If so, explain the process and any guides used to determine the write-down. How is it recorded on the books? The examiner might ask you to provide an example.
Are any vehicles valued below cost? If so, explain the reasoning for such valuation?
For any vehicle that is valued below cost, how does the asking price at any point in time differ from the value recorded on the books at year-end? Please explain.
Are repairs typically made to previously acquired vehicles? If so, how is this recorded on the books?
Is inventory valued using LIFO, Lower of Cost or Market, Cost? If LIFO, is Alternative LIFO used? Whether 263A UNICAP costing was properly applied? The examiner might request inventory records and computations.
Are items other than vehicles taken in trade? The examiner might request explanations and examples. How was it accounted for on the books?
The examiner might request the log/record of titles for all vehicles sold for the year.
Are vehicles acquired at auctions? If yes, specify which auctions? Which auctions, if any, are out of state?
Are vehicles acquired from wholesalers? If yes and a few are used, which wholesalers are used? If yes, and many are used, who are the primary wholesalers? Any out of town?

If you have cheated on the returns that are at issue, we strongly urge you NOT to consult your original preparer. Your original preparer is likely to become federal or California government witness number one if you are criminally prosecuted and is likely to bury you to save their own reputation and attempt to avoid criminal charges themselves for aiding and abetting tax evasion. You need to hire a dual licensed Criminal Tax Defence Attorney and CPA that can offer you attorney client privilege and that has a staff of Kovel Accountants that also grant you attorney client privilege so that the very professionals you hire cannot be forced to become a witness against you. At the Tax Law Office of David W. Klasing, we are equipped with all the tools to meet all the challenges that may arise.

What Should I do If I Get a Notice of Determination?

Suppose you are a sole proprietor doing business and operating a used car dealership in California. For the liability period, you reported on your sales and use tax returns (SUTRs) total sales of a certain amount and claimed deductions of a certain amount for sales tax included, resulting in reduced reported taxable sales. If you did not provide any books and records for the liability period, you incur the risk that the IRS or California tax authorities will use an indirect audit method to compute your taxable sales.

The IRS or California tax authorities will then obtain your electronic Report of Sales (ROS) data from the DMV for the liability period. Using the ROS data, CDTFA will compile taxable vehicle sales of a certain amount. Upon comparison to the taxable sales you reported on the SUTRs, they will compute unreported taxable sales for the liability period. Suddenly, and what would seem out of nowhere, you find yourself at the opposite end of the dreaded Notice of Determination, stating a ridiculous tax liability, plus applicable interest, for the liability period.

At the Tax Law Office of David W. Klasing, we are California Tax Attorneys & CPAs with a long record of success representing car dealers in civil and criminal audits & investigations, Appeals & Litigation before the IRS, FTB, and Office of Tax Appeals (OTA). We know that it might be the case that you did not make the number of sales determined by the audit, and someone else might have been using your information (e.g., DMV vehicle dealer’s license). From our extensive experience, we know that to launch a strong defense, we would need to identify specific sales from the DMV ROS data that we believe to be erroneous or otherwise nontaxable. We would provide documentation and other evidence to support our contention and to show actual sales for the liability period. Thus, we would be able to establish a strong foundation to establish that a reduction to the measure of unreported taxable sales is warranted.

The dual licensed Tax Lawyers & CPAs at the Tax Law Offices of David W. Klasing are ready willing and able to assist new and used car and truck dealerships that have come under audit by the IRS, California Franchise Tax Board, Employment Development Division, or Board of Equalization. Mr. Klasing is a dually licensed Tax Attorney and CPA who has decades of experience as former auditor himself from working for various public accounting firms. As such, he can often anticipate the approach auditors will take and can craft a strategy to meet these challenges. To schedule a confidential, reduced-rate initial consultation, call our Irvine or Los Angeles law firm at 800-681-1295 or schedule online today HERE.

Note: As long as a taxpayer that has willfully committed tax crimes (potentially including non-filed foreign information returns coupled with affirmative evasion of U.S. income tax on offshore income) self-reports the tax fraud (including a pattern of non-filed returns) through a domestic or offshore voluntary disclosurebefore the IRS has started an audit or criminal tax investigation / prosecution, the taxpayer can ordinarily be successfully brought back into tax compliance and receive a nearly guaranteed pass on criminal tax prosecution and simultaneously often receive a break on the civil penalties that would otherwise apply.

It is imperative that you hire an experienced and reputable criminal tax defense attorney to take you through the voluntary disclosure process. Only an Attorney has the Attorney Client Privilege and Work Product Privileges that will prevent the very professional that you hire from being potentially being forced to become a witness against you, especially where they prepared the returns that need to be amended, in a subsequent criminal tax audit, investigation or prosecution.

Moreover, only an Attorney can enter you into a voluntary disclosure without engaging in the unauthorized practice of law (a crime in itself). Only an Attorney trained in Criminal Tax Defense fully understands the risks and rewards involved in voluntary disclosures and how to protect you if you do not qualify for a voluntary disclosure.

As uniquely qualified and extensively experienced Criminal Tax Defense Tax Attorneys, Kovel CPAs and EAs, our firm provides a one stop shop to efficiently achieve the optimal and predictable results that simultaneously protect your liberty and your net worth. See our Testimonials to see what our clients have to say about us!

If you have failed to file a tax return for one or more years or have taken a position on a tax return that could not be supported upon an IRS or state tax authority audit, eggshell audit, reverse eggshell audit, or criminal tax investigation, it is in your best interest to contact an experienced tax defense attorney to determine your best route back into federal or state tax compliance without facing criminal prosecution.

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Los Angeles County Auto Dealership Owner Sentenced for Sales Tax Evasion

How is My Liability Computed?

What if I Know I Cheated on My Taxes and the IRS or California CDTFA FTB or EDD Wants to Speak with Me?

Income Sources:

Sales:

Inventory Items:

What Should I do If I Get a Notice of Determination?

More Commonly Asked Tax Audit Questions

California Sales Tax Questions and Answers

Questions and Answers for Criminal Tax Representation

Questions about delinquent payroll taxes and trust fund recovery penalty

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