#7: Prior Period Risk
In my last blog, Post Wayfair Aftershocks: Top Ten Sales and Use Tax Changes – Part 3, we took a deeper dive into determining how to tax emerging technologies. In this blog (Part 4), we look at the expected increase in the risk of prior period audits.
Increased registration under economic nexus rules will increase the risk of prior year liability and the ability to take advantage of voluntary disclosure agreements (VDA) and various state amnesty relief programs.
Since businesses under economic nexus will now face increased sales and use tax obligations in more states, more businesses will be required to register in those states. However, careful risk assessment of potential past liabilities in those states must be made before a business registers. This is so because registration may open the door for states to seek to assess tax in prior years as well. This could result in potentially piling on more taxes, interest and penalties. To make matters worse, sales tax collection registration may also preclude those businesses from participating in voluntary disclosure agreement (VDA) programs that can be used to significantly soften the impact of tax liability in prior years.
Prior Years Liability — What Wayfair Did and Didn’t Say about Retroactivity
Good News: The Wayfair court made it clear that it would not look favorably on any state attempts to impose retroactive application of any new or” reanimated” past economic nexus law on businesses before the June 21, 2018, decision was reached.
Bad News: Prior to Wayfair, there were many other kinds of nexus statutes on the books of states that businesses had to comply with, e.g., “click-thru nexus,” “cookie nexus,” “affiliate nexus,” “marketplace nexus,” etc. These nexus rules were variations on the physical presence test under Quill. However, post-Wayfair, most, if not all, of those laws are still on the books and so far, remain effective for current as well as past years. And there are two risks here:
- These rules might have applied to the business in the past (whether it knew it, or should have known it). So, in a company’s zeal to register in states under Wayfair, a business may find itself liable for unexpected and unbudgeted past tax liability under these other nexus rules.
- Once a business registers, it may no longer be entitled to use a VDA to limit past liability exposure. However, prior contact between a state and the taxpayer concerning sale tax, for example, may disqualify the business from participation in a VDA with respect to sales tax. Contact includes filing a tax return, paying tax, or even receiving an inquiry from the state regarding sales tax.
Risk Assessment: Look Before You Leap
A first step in addressing this increased risk is to undertake a careful review of the business activity in all the states in which you are doing business currently as well as planning to do business in the future. In those states, a review of all nexus laws in those states would be needed–not just economic nexus laws under Wayfair, but the other types of nexus still on the books, e.g., click-thru nexus, cookie nexus, affiliate nexus, etc. And this also means that business planning will have to include retroactive tax liability for prior years; therefore, before you register in a state, be sure you review past liabilities in that state.
This can be challenging so it’s worth enlisting the help of an experienced and knowledgeable sales and use tax team — one that can assess the situation, make recommendations and then implement the technical and research solutions needed to help you to reduce risk and stay compliant.
Stay up to date with rapidly changing nexus standards across the country.