IPT ANNUAL CONFERENCE
ACCOUNTING FOR
SALES TAX
PROFESSIONALS
Suzanne Wilson
Jeff McGhehey, CMI
Sr. Mgr. – Transaction Tax
American Airlines
Phoenix, AZ
Sr. Mgr. – Indirect Tax
The Home Depot
Atlanta, GA
S u z a n n e . Wi l s o n @ A A . c o m
J e f f _ M c G h e h e y@ H o m e D e p o t . c o m
LEARNING OBJECTIVES
 Understand how sales and use taxes impact the
financial statements
 Understand basic accounting principles related to
sales tax collection and use tax accrual
 Review typical accounting entries to record sales
tax and use tax transactions
 Review the sales and use tax reconciliation
process
 Understand how reserves are used to estimate
and record audit liabilities
2
IPT 2014 ANNUAL CONFERENCE
SALES/USE TAX & FINANCIAL STATEMENTS
Understand how sales and use taxes impact the
financial statements
 Sales and use taxes may have a material impact on a
company’s financial statements, so understanding
how they impact the balance sheet and income
statements is vital.
 Awareness of how sales/use taxes impact your
income statement will help you be a better partner
with the operational side of your business.
3
IPT 2014 ANNUAL CONFERENCE
SALES/USE TAX & FINANCIAL STATEMENTS
Sales and use taxes transactions may impact
either the balance sheet or income statement or
both.
 Balance Sheet
 Sales tax (accruals and payments)
 Use tax (accruals and payments)
 Use tax (accrued on asset purchases)
 Audit reserves
4
IPT 2014 ANNUAL CONFERENCE
SALES/USE TAX & FINANCIAL STATEMENTS
 Income Statement
 Sales tax (tax expense)
 Vendor paid tax typically follows accounting of underlying
transaction
 Use tax (tax expense)
 Accrued use tax on expense payables typically follows accounting
of underlying transaction
 Audit reserves
5
IPT 2014 ANNUAL CONFERENCE
SALES/USE TAX & FINANCIAL STATEMENTS
6
IPT 2014 ANNUAL CONFERENCE
BASIC ACCOUNTING PRINCIPLES
Understand basic accounting principles
related to sales tax collection and use tax
accrual
7
IPT 2014 ANNUAL CONFERENCE
SALES TAX VS USE TAX
 Sales tax is imposed on the sale or lease of
goods and services and is collected at the time of
sale.
 States imposing sales tax also impose a use tax,
sometimes called a compensating use tax, on
buyers of TPP where sales tax is not paid.
 Sales and use tax together provide a uniform tax
upon either the sale or use to TPP irrespective of
where it was purchased.
8
IPT 2014 ANNUAL CONFERENCE
SALES TAX VS USE TAX
 Sales taxes are collected by vendors in most states.
 Some states impose a sellers use tax. This tax is
collected by a vendor making retail sales in a state
they are not physically located in but have nexus.
 Use taxes are self assessed by the purchaser.
 When a company bills its customers for sales taxes,
those taxes are not an expense to the company; they
are an expense to the customer.
 When a company accrues use tax on purchases,
those taxes are an expense to the company.
9
IPT 2014 ANNUAL CONFERENCE
SALES TAX VS USE TAX
 It is common to have separate sales tax liability
accounts for each state.
 If a company operates in multiple states, having a
separate account for each of the sales tax collected
makes it much easier to pay remittances.
 It also reduces the work required to justify the company’s
remittance in a sales tax audit.
10
IPT 2014 ANNUAL CONFERENCE
SALES TAX COLLECTION
 When you bill a customer for sales tax, the
journal entry is a debit to the accounts receivable
asset for the entire amount of the invoice, a
credit to the sales account for that portion of the
invoices attributable to the goods or services
billed, and a credit to the sales tax liability
account for the amount of sales tax billed.
11
IPT 2014 ANNUAL CONFERENCE
RECORDING SALES TAX COLLECTION
Record July 1 sale and 6% sales tax liability
General Journal
Date
Jul. 1
Account Titles and Explanation
Accounts Receivable
J1
Ref.
Debit
Credit
1060.00
Sales
1000.00
Sales Tax Liability
60.00
(Record day's sales and sales tax liability)
Total debits must always equal total credits
1060.00
1060.00
12
IPT 2014 ANNUAL CONFERENCE
SALES TAX REMITTANCE
 At the end of the month (or longer, depending on
your remittance arrangement), you fill out a sales
tax remittance form that itemizes sales and sales
taxes, and send the government the amount of
the sales tax recorded in the sales tax liability
account.
 This remittance may take place before the
customer has paid you for the sales tax (credit
transactions)
13
IPT 2014 ANNUAL CONFERENCE
REMITTING SALES TAX COLLECTED
Record July sales tax liability paid
General Journal
Date
Aug 20
Account Titles and Explanation
July Sales Tax Liability
J2
Ref.
Debit
Credit
60.00
Cash
60.00
(Record July’s sales tax liability remitted)
Total debits must always equal total credits
60.00
60.00
14
IPT 2014 ANNUAL CONFERENCE
RECORD ACCOUNTS RECEIVABLE COLLECTION
 If you file and pay your sales tax return on a
timely basis, some states allow you to keep a
portion of the sales tax as a discount.
 The amount of the discount varies and is, most
often, a percentage of the sales tax collected.
15
IPT 2014 ANNUAL CONFERENCE
REMITTING SALES TAX COLLECTED
Record July sales tax liability paid with discount
General Journal
Date
Aug 20
Account Titles and Explanation
July Sales Tax Liability
J2
Ref.
Debit
Credit
60.00
Discounts
.60
Cash
59.40
(Record July’s sales tax liability remitted)
Total debits must always equal total credits
60.00
60.00
16
IPT 2014 ANNUAL CONFERENCE
RECORD ACCOUNTS RECEIVABLE COLLECTION
 When the customer pays you for the invoice, you
debit the cash account for the amount of the
payment and credit the accounts receivable
account.
17
IPT 2014 ANNUAL CONFERENCE
RECORD ACCOUNTS RECEIVABLE COLLECTION
Record accounts receivable invoice paid
General Journal
Date
Aug 1
Account Titles and Explanation
Cash
J3
Ref.
Debit
Credit
1060.00
Accounts Receivable
1060.00
(Record accounts receivable invoice paid)
Total debits must always equal total credits
1060.00
1060.00
18
IPT 2014 ANNUAL CONFERENCE
CREDITING SALES TAX CHARGED
 What if the customer does not pay the sales tax
portion of the invoice?
In that case, you issue a credit memo that
reverses the amount of the sales tax liability
account (and which is also a reduction of the
accounts receivable asset account).
It is quite likely that you will have already
remitted this sales tax to the government, so the
customer's non-payment becomes a reduction in
your next sales tax remittance to the government.
19
IPT 2014 ANNUAL CONFERENCE
RECORDING SALES TAX COLLECTION
Credit sales tax charged on invoice
General Journal
Date
Jul 31
Account Titles and Explanation
Sales Tax Liability
CM1
Ref.
Debit
Credit
10.00
Accounts Receivable
10.00
(Record credit sales tax liability)
Total debits must always equal total credits
10.00
10.00
20
IPT 2014 ANNUAL CONFERENCE
USE TAX ACCRUAL
 Use tax is assessed upon TPP purchased by a
business of the assessing state for use, storage,
or consumption in that state (not for resale),
regardless of where the purchase took place.
 Use tax applies when a business purchases an
item that does not include sales tax. Usually, this
is due to out-of-state purchases or purchases over
the internet.
 The use tax is typically assessed at the same rate
as the sales tax that would have been owed had
the same goods been purchased in the state of
residence.
21
IPT 2014 ANNUAL CONFERENCE
USE TAX ACCRUAL
 Not all use tax derives from sales transactions.
There are also internal transactions a company
might initiate that will trigger use tax
consequences.
 For example, ABC Furniture Company buys its
inventory tax-free with a resale certificate, then
charges sales tax to its customers. But if this
company removes furniture from inventory for its
own use, it has triggered a tax incident: use tax is
due on the converted inventory that is being
used, not sold.
22
IPT 2014 ANNUAL CONFERENCE
RECORDING USE TAX LIABILIT Y
Record July 1 use tax liability
General Journal
Date
Jul. 1
Account Titles and Explanation
Inventory
Inventory – use tax
Office Supplies
Office Supplies – use tax
J4
Ref.
Debit
Credit
1000.00
60.00
1000.00
60.00
Cash
2000.00
Use Tax Liability
120.00
(Record use tax liability on purchases)
Total debits must always equal total credits
2120.00
2120.00
23
IPT 2014 ANNUAL CONFERENCE
REMITTING USE TAX LIABILIT Y
Record July use tax liability paid
General Journal
Date
Aug 20
Account Titles and Explanation
July Use Tax Liability
J5
Ref.
Debit
Credit
120.00
Cash
120.00
(Record July’s sales tax liability remitted)
Total debits must always equal total credits
120.00
120.00
24
IPT 2014 ANNUAL CONFERENCE
THE SALES AND USE TAX RECONCILIATION PROCESS
Definition:
 “Reconciliation” is the process of comparing
information that exists in two systems or
locations, analyzing differences and making
corrections so that the information is accurate,
complete and consistent in both locations.
25
IPT 2014 ANNUAL CONFERENCE
THE SALES AND USE TAX RECONCILIATION PROCESS
 Balance sheet accounts must be reconciled on
a periodic and timely basis to verify that all
items were correctly posted to the account.
 Sales tax liability accounts are often subject to
Section 404 of the Sarbanes-Oxley Act (SOX).

The reconciliation may be one of the tests to establish that
the control has sufficient internal controls around financial
reporting.
26
IPT 2014 ANNUAL CONFERENCE
SALES TAX RECONCILIATION
 Steps for monthly reconciliation:
1. Begin with verifying the opening balance in the
G/L for the month
2. Review the sales tax activity posted to the
account to ensure that items are properly
classified
3. Review all payments posted to the account are
properly classified
4. Confirm the ending balance per the
reconciliation agrees to the general ledger
balance
27
IPT 2014 ANNUAL CONFERENCE
SALES TAX RECONCILIATION PROCESS
Date
Description
July 1
Balance Forward
July 20 Payment June Liability
July 31
Debit
Balance
(43,000)
43,000
July Sales Tax Collected
Aug 20 Payment July Liability
(Credit)
0
(35,000)
35,000
(35,000)
0
28
IPT 2014 ANNUAL CONFERENCE
SALES TAX RECONCILIATION PROCESS
Date
Description
July 1
Balance Forward
Debit
(Credit)
Balance
(25,000)
July 20 Payment June Liability
25,000
0
July 10 Prepayment #1 of July Liability
15,000
15,000
July 20 Prepayment #2 of July Liability
15,000
30,000
July 31
July Sales Tax Collected
(23,000)
7,000
G/L Balance consists of:
Credit from overpayment on July
Return (apply to Aug. return)
7,000
29
IPT 2014 ANNUAL CONFERENCE
SAMPLE BALANCE SHEET
 ABC Manufacturing, Inc.
Balance Sheet
July 31 , 2013
Cash
$ 2,000
Accounts Receivable
2,106
Office Equipment
$ 5,000
Less: Accumulated Depreciation
Total Assets
2,000
3,000
$ 7,106
Liabilities and Owner’s Equity
Liabilities
Accounts Payable
$
500
Sales Tax Payable
6
Total Liabilities
506
Owner’s Equity
Common stock
5,000
Retain earnings
1,600
Total liabilities and owner’s equity
$ 7,106
30
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
 FAS 5 / ASC 450 - Accounting for Contingencies
A “contingency” is an existing condition, situation,
or set of circumstances involving uncertainty as
to possible gain or loss that will ultimately be
resolved when one or more future events occur or
fail to occur.
A “liability” is a known obligation.
 Indirect taxes tend to be liabilities rather than
contingencies
31
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
 A “contingency” exists if the loss is either:
“Probable” (more than 65-75% likely to occur); or
“Reasonably estimable”
 If both conditions apply, then the “contingency” has
become a “liability” and must be recognized in the
financial statements.
32
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
Common reasons for contingencies or
liabilities.
Nexus
Audit assessments
Tax Matrix Errors
Exemption Certificates
Use tax accrual procedures
Unusual transactions
33
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
 Initially, a sales and use tax audit may be
considered a contingency, assuming no issues
are known at the outset of the audit.
 If issues are known to exist, then a liability
should be recorded in the financial statements.
 For example, a prior audit in the same jurisdiction or
knowledge of existing exposure; and the amounts are
“probable and estimable”.
34
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
 Estimating a liability:
Audits
Prior audit experience
Average percentage error of expense payables
Average percentage error of exempt sales
Exempt Customers
Non-taxable Items
Short tests of current audit period
35
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
 Should the audit results in one state provide
insight into the audit reserves in another
jurisdiction?
 Generally speaking, yes.
 Consider your industry and business practices
in states where you do business.
 Are they consistent or are they unique from
state to state?
 Consider your accounting systems and your
processes.
 Are they automated or manual?
36
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
 Entry to record liability
General Journal
Date
Account Titles and Explanation
8/31 Tax Expense
(Income Statement)
J5
Ref.
Debit
Credit
152,000
Accrued Tax Liability
(Balance Sheet)
122,000
Accrued Interest Liability
(Balance Sheet)
30,000
(Record August Sales Tax Reserves)
Total debits must always equal total credits
152,000
152,000
37
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
 Entry to record payment of audit and release of
excess reserves
General Journal
Date
Account Titles and Explanation
12/15 Accrued Tax Liability
Accrued Interest Liability
Other Income
J5
Ref.
Debit
(Balance Sheet)
127,000
(Balance Sheet)
22,000
(Income Statement)
3,000
Cash
(Balance Sheet)
(Pay Sales Tax Audit Liability)
Total debits must always equal total credits
Credit
149,000
152,000
152,000
38
IPT 2014 ANNUAL CONFERENCE
RESERVES FOR AUDIT LIABILIT Y
Best Practices:
 There is no such thing as a “good” surprise.
 Keep management informed of both “good” and “bad”.
 Document your positions. Whether or not you accrue a
liability, your financial statement auditors may request
documentation to establish the reasonableness of your
decisions and estimates.
39
IPT 2014 ANNUAL CONFERENCE
IPT ANNUAL CONFERENCE
Questions
40
IPT 2014 ANNUAL CONFERENCE