The Department’s Quest to Nullify Evidence

by Tom Yamachika, President, Tax Foundation Hawaii

Every so often, because our Department of Taxation is given the opportunity to recommend legislation to our lawmakers, the Department sponsors some bills to make their administrative lives easier…which sometimes means trampling on taxpayers’ rights.

One of the Department’s bills before the current Legislature, which has been introduced as HB 2487 and SB 3176, titled “Relating to Tax Enforcement,” is in this category.  What it says is this.  If you are being audited and the auditor asks you for documents or other information, you have 20 days to give it to them.  If you don’t, you “shall be prohibited from introducing the documents or matters in evidence, or otherwise relying upon or utilizing said documents or matters, in any tax appeal or [payment under protest lawsuit] arising from the audit in which the documents or matters were demanded, unless it is shown that the failure is due to reasonable cause and not neglect or refusal.”  In other words, if you don’t give them documents within the 20 days (unless they give you permission to take longer) then they can conceivably assess tax against you based on “best available information,” meaning they can make up a number, and when you appeal to court you won’t be able to prove up the actual facts against them.  The bill applies to income tax, general excise tax, and estate tax.

What kind of information requests are we talking about?  Well, here are some from an actual audit:

Please provide the information requested below:

1. A full description of the Hawaii business activity(s) of XXX and any other affiliated company(s) doing business in Hawaii.  Please include (1) source of income of XXX and other affiliated company(s), (2) business start date in Hawaii, (3) nature of business, (4) type of services performed, (5) location where services are performed, and (6) where the records are kept.
2. Please provide detailed schedules of the gross income earned in Hawaii for each year.  The income should be classified by year and business activity.
3. Property/services imported for resale at retail are taxable at .5% under Section 238-2(2) and Section 238-2.3(2), HRS. Property/services imported for consumption (equipment, supplies, forms, promotional items, displays, etc.) are taxable at 4% (4.5% on or after January 1, 2007) under Section 238-2(3) and Section 238-2.3(3), HRS. The tax is based on the landed value, which includes the cost, insurance, and freight of the property/services.

Please submit separate schedules of properties imported into Hawaii for consumption and for resale for each year.

Additional information may be requested as the audit progresses.  Please provide the information requested above by [20 days from the date of this letter].

Perhaps this request wouldn’t be too bad if the company being audited already had this information in spreadsheets, but if it didn’t and the company needed to create the schedules and spreadsheets, it could be quite a chore to accomplish in 20 days.

When this bill was heard in House Judiciary, the Department argued, “Many taxpayers ignore the Department's requests for information or refuse to permit the Department to examine records during an audit.”  Some tax practitioners stepped up with testimony in opposition, and the Tax Foundation of Hawaii provided comments (that weren’t very favorable to the bill).

Judiciary Chair David Tarnas’ reaction:  “This needs work.”  He deferred the bill indefinitely, effectively killing the House version; the Senate version is still alive and has been assigned to the Judiciary and Ways & Means committees jointly.

Let the taxpayer beware!  Someone (or, preferably, lots of people) needs to watch out what is happening at the big square building and say what needs to be said.