How to avoid or survive an IRS audit due to FET mistakes

A customer shakes hands with a salesperson in front of a tractor trailer.

Truck, trailer and semitrailer chassis and bodies and tractors earned the IRS more than $5 billion in 2022, the latest year for which data is available. It’s a sliver of that year’s $95 billion in total excise tax collections.

For truck and equipment dealers, though, the federal excise tax (FET) can mean a big headache and a serious risk to their bottom lines, especially if there’s an audit and more so if unexpected liability is uncovered.

And while there’s not one particular thing that triggers an audit, audits do happen, say Ericka Hernandez and Matt Brown with FORVIS. Hernandez and Brown will lead an FET webinar for Trucks, Parts, Service on May 22.

Tim Reynolds, CPA, a partner with Davidson, Holland, Whitesell and Co., says dealing with an FET-focused audit from the IRS can come with its own set of pitfalls, some of which can be cleared up by using FET best practices in your dealership and conducting regular self-audits.

The best thing to keep in mind, Reynolds says, is IRS agents “look through a straw.” Everything is black and white, right or wrong. Any misstep in FET paperwork or calculations is an entry point for liability.

Setting expectations

Brown and Hernandez say there are some things that may draw the IRS’ attention. These are having errors on the FET return; importing trucks, trailers and tractors and not paying the tax at first retail sale; or perhaps having a customer get audited.

The FORVIS experts say the IRS does generally give notice listing the periods they intend to audit.

“They will likely schedule an introductory call to understand better your business operations and to begin the audit examination,” Brown and Hernandez say. “They will discuss specific examination procedures, such as communication methods, response times and other general expectations.”

[RELATED: Submit a question for FORVIS experts to answer during our FET webinar!]

Also on that call, IRS agents will discuss any documents they will need and if they intend to tour any facilities.

The dealership can do little things, like including FET calculations in deal files, that can help IRS agents see the methods for calculating liability. Not having a defense for FET exemptions or calculations in your documentation shows “you don’t really have your ducks in a row,” Reynolds says, while including the calculations in every deal lets the agent get comfortable with your methodology.

Marketing materials should also support FET positions. For instance, Reynolds says, a dealer selling a trailer it says meets an agricultural exemption should only advertise the trailer as designed to haul feed, seed, fertilizer and other farming materials. Adding it can also haul mulch, sand or gravel is inconsistent with the exempt status, Reynolds says.

Know the rules

IRS Publication 510, Reynolds says, is a very high level overview of FET, touching on common themes. But it’s not law.

“Even though it’s published by the IRS, you can’t cite it as law and rely upon it as law,” Reynolds says. Instead, turn to the actual code sections that deal with excise tax.

“It’s a great starting point, but be careful with telling the agent ‘Hey, Publication 510 says this.’” Reynolds says. “They probably won’t accept that. They’ll come back with the rules and regulations that you should’ve relied upon, and it will probably be a different answer.”

Hernandez and Brown recommend someone in finance or operations be the point of contact for the IRS agents, as they will be able to answer questions but not give away too much information.

“The goal is to provide enough information but do not volunteer information that is not necessary,” Hernandez and Brown say. “Some auditors like to engage on chatty conversations and the taxpayer does not realize they are seeking additional information.”

Be consistent

Dealers must ensure FET calculations and paperwork are consistent across deals and locations.

“It shows you know what you’re doing,” Reynolds says.

Form 720, the form used to report FET payments, should match with the dealership’s deposits. Be consistent in filling out the forms correctly and on the correct schedule for your business. Keep proof of payment and make sure deposits are supported, or there could be underpayment and other penalties.

Reynolds warns payments must be at least 95% of what is owed or agents could assign penalties.

Don’t rely on past clean audits

A past clean audit doesn’t guarantee later clean audits, even those that cover the same time period, Reynolds says.

“You might get a different agent,” he says. “They might focus on something completely different.”

Depending on the in-house experience, experts say dealers may find it beneficial to hire an accounting firm to help during an audit. The FORVIS team suggests asking for referrals from other dealers in similar markets.

Audits can only go back three years unless the agent finds evidence of fraud, willful negligence or criminal activity, Reynolds says. Then, agents can dig as deep as they want. Generally speaking, however, Reynolds says the IRS generally trusts their agents to do the job and once there’s a clean audit, they close the books.

He finds that actual fraud or criminal activity is pretty rare. Most of the liability comes from honest mistakes or poor calculations. 

Learn how to move your used trucks faster
With unsold used inventory depreciating at a rate of more than 2% monthly, efficient inventory turnover is a must for dealers. Download this eBook to access proven strategies for selling used trucks faster.
Used Truck Guide Cover