Purpose of this document: Understand the ins and outs of Voluntary Disclosure Agreements.
A Voluntary Disclosure Agreement (VDA) is a program that allows businesses to voluntarily come forward and disclose unpaid sales taxes to the state. It offers a way to resolve prior non-compliance issues with state tax laws while reducing potential penalties and interest, and often limits the period under which the state can audit past tax liabilities (known as the look-back period). These agreements help businesses achieve compliance while mitigating the financial impact of unpaid taxes.
Why Consider a VDA?
If your business has discovered it owes sales tax in a state where it should have been collecting but hasn't, a VDA may offer significant advantages. Some key benefits include:
Penalty Reduction or Waiver: States typically reduce or even waive penalties for businesses that voluntarily disclose their tax liabilities. In some states, penalties for non-compliance can accumulate over several years, so avoiding or reducing these charges can represent substantial savings.
Limited Look-Back Period: Normally, a state might audit several years of sales tax records. Through a VDA, the look-back period (i.e., the years the state will audit) is often limited to three to four years, depending on the state. This prevents businesses from facing audits going back further than necessary.
Audit Protection: Once you enter a VDA, the business is often protected from further audits for the disclosed period, reducing the risk of additional penalties.
Anonymity During Negotiation: In some states, VDAs can be initiated anonymously through a tax professional, which allows businesses to explore the agreement terms without immediately exposing their identity to the tax authorities.
How VDAs Work
The process begins with an application, which typically includes information about the business’s tax liability, the type of tax involved, and the periods of non-compliance. The state tax authorities then review the application and decide if the business qualifies for the program.
Once the terms are negotiated, the business will agree to pay the disclosed tax liability, often with a reduced interest rate and without penalties. States may also offer payment plans to ease the financial burden of coming into compliance
Eligibility and Conditions: Most states require that businesses applying for a VDA must not have been contacted by the state regarding their tax liability or been subject to an audit for the period in question. If a business is already under investigation, it will typically be ineligible for the benefits of the VDA.
Additionally, some states have specific rules. For example, certain states do not allow VDAs for businesses that have previously registered for other taxes (e.g., income tax) but not sales tax.
Key Considerations: While VDAs offer many benefits, there are some things to watch for:
Varying State Requirements: Each state has its own rules and processes for VDAs. Some states require detailed tax returns for each period, while others may allow simplified disclosures.
Potential for Additional Liabilities: If a business discloses nexus (a sufficient connection to require tax collection) for sales tax purposes, this could expose it to liabilities for other taxes, such as income or franchise taxes.
Time and Resources: While the VDA process typically takes a few months, it can be resource-intensive. Involving tax professionals to ensure accuracy and compliance can ease the process.
Is a VDA Right for Your Business?
If your business has identified uncollected sales tax liabilities, especially in multiple states, a VDA can provide a pathway to compliance with reduced financial and legal risks. However, working with a tax professional is crucial to navigating the complexities and ensuring that the agreement’s terms are advantageous for your business. For companies unsure whether a VDA is the right option, conducting a nexus study to understand your tax exposure is an excellent first step.
In summary, a VDA is a powerful tool for businesses needing to correct past tax mistakes, offering significant financial relief and fostering a stronger relationship with tax authorities.