STATE OF FLORIDA

DIVISION OF ADMINISTRATIVE HEARINGS

6 TO 12 STORE 2, INC., Petitioner,

vs.

DEPARTMENT OF REVENUE,

Respondent.

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) Case No. 07-3163

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RECOMMENDED ORDER

Administrative Law Judge (ALJ) Daniel Manry conducted the final hearing of this case for the Division of Administrative Hearings (DOAH) on November 27, 2007, in Naples, Florida.

APPEARANCES

For Petitioner: Jeremiah J. Doran, Jr.

Jerry Doran & Associates, LTD 710 A Main Street

Port Jefferson, New York 11777-2223

For Respondent: John Mika, Esquire

Office of the Attorney General The Capitol - Tax Section Tallahassee, Florida 32399-1050

STATEMENT OF THE ISSUE

The issue is whether a proposed sales tax assessment should become final agency action.

PRELIMINARY STATEMENT

Petitioner requested an administrative hearing to contest the sales tax assessment that Respondent proposes. Respondent

referred the matter to DOAH to assign an ALJ to conduct the hearing.

At the hearing, Petitioner presented the testimony of two witnesses and submitted 15 exhibits for admission into evidence. Pursuant to the agreement of the parties, Petitioner retained possession of Petitioner's exhibits for later filing with DOAH. Petitioner filed only nine Exhibits, numbered 3 through 5, 8, 9, and 12 through 15. Respondent presented the testimony of two witnesses and submitted 19 exhibits.

The identity of the witness and exhibits, and the rulings regarding each, are reported in the one-volume Transcript of the hearing filed with DOAH on December 21, 2007. The ALJ granted the unopposed request to extend the time for filing proposed recommended orders (PROs). Petitioner and Respondent timely filed their respective PROs on January 23 and 24, 2008.

FINDINGS OF FACT

1. Respondent is the agency responsible for administering the state sales tax imposed in Chapter 212, Florida Statutes (2001).1 From May 1, 2002, through April 30, 2005 (the audit period), Petitioner was a dealer, defined in Subsection 212.06(2), and was required to collect and remit sales tax to the state.

2. Petitioner is a closely held Florida corporation located at 2802 Thomasson Drive, Naples, Florida 34112.

   Petitioner is engaged in the business of retail sales, including the sale of tangible personal property such as food, beer, beverages, and fishing bait (goods).

3. Petitioner uses the accrual method of accounting.

   
   

   Petitioner elects, under Subchapter S of the Internal Revenue Code, to report income and deductions for purpose of the federal income tax on form 1120S.

4. Sometime in June 2005, Respondent sent Petitioner a Notification of Intent to Audit Books and Records identified in the record by audit number A200015450. Upon completion of the audit, Respondent concluded that Petitioner had not reported all of the gross sales that occurred during the audit period (unreported sales) and assessed tax, penalty, and interest, through July 13, 2006, in the amount of $163,914.16.

5. During the audit period, it is undisputed that Petitioner did not maintain cash register receipts identified in the record as Z-tapes (Z-tapes).2 Respondent claims the absence of Z-tapes deprives Respondent of adequate records to determine the amount of a tax deficiency, if any.

6. Respondent defines adequate records in Florida Administrative Code Rule (Rule) 12-3.0012(3). The definition of adequate records does not include a requirement for Z-tapes.

7. The trier of fact finds the evidence from Petitioner concerning the adequacy of its records to be credible and

   persuasive. Petitioner maintained adequate records within the meaning of Rule 12-3.0012(3). The records include books, accounts, and other records that are sufficient for Respondent's auditors (the auditors) to reliably determine a tax deficiency.

8. The available records are accurate within the meaning of Rule 12-3.0012(3)(a)1. The records are adequate for the auditors to reconcile differences between gross sales reported for federal and state tax purposes.

9. The available records are inclusive within the meaning of Rule 12-3.0012(3)(a)2. The records capture the transactions necessary to determine a tax deficiency. The available records include a breakdown of individual suppliers for all products that Petitioner sold during the audit period. The amount charged by each vendor ties into the total claimed for federal tax purposes on Petitioner's 1120S tax returns.

10. The available records are authentic within the meaning of Rule 12-3.0012(a)3. It is undisputed that the available records are authentic.

11. The available records are systematic within the meaning of Rule 12-3.0012(a)4. Available records include: daily summary tapes for each shift, spread sheets, and quarterly summaries, each of which is maintained by Petitioner, and journals and general ledgers, which are maintained by Petitioner's accountants. During the audit period, each shift

    operator manually prepared a worksheet for daily sales and reconciled those numbers with the corresponding bank deposit. Petitioner maintained working papers supported by summary tapes.

12. The summary tapes document totals for each day's operations. Each summary tape is proofed against two of three tapes prepared by different employees. The daily totals are entered on a monthly spreadsheet and submitted to Petitioner's accountants quarterly for preparation of sales tax returns.

13. The auditors were not satisfied with the records Petitioner maintained during the audit period. The cost of goods sold exceeded gross sales (operating losses) for two federal tax years during the three-year audit period (operating loss years).3 The auditors regarded the operating loss years as evidence of unreported sales. As Respondent explains:

    The controversy regarding the true amount of total sales made by Petitioner arose because [Respondent] could not accept as correct Petitioner's assertion that for two of the three years under audit, Petitioner's reported costs of goods sold were greater than its reported gross receipts [operating losses]. . . . The question puzzling the

    . . . auditors was - how could a business continue to operate if its costs were greater than its revenue? [Respondent] concluded unreported sales were indicated. . . .

    
    

    Respondent's PRO, paragraph 8, page 6.

    
    

14. Respondent knew, or should have known, that unusual facts and circumstances existed during the audit period which

    answered the auditor's questions concerning the operating loss years. During a substantial part of the audit period, the road fronting the store, which provided virtually all practical access to the store, was closed for construction by the county government. The road closure depressed sales substantially and required Petitioner to sell some goods for less than cost and to offer customer incentives and promotions in an effort to maintain the customer base. The owner and her mother financed the operating losses with annual shareholder loans of approximately $200,000 for each of the two operating loss years.

15. Petitioner provided the auditors with material information, including documentation of the road construction and shareholder loans. That information concerned the nature of the taxpayer's business and included information authorized in Rule 12-3.00112(3) such as third-party confirmations, corroborating evidence, and related supporting documentation.

16. The auditors were not satisfied. They concluded that available records were not adequate. When records are inadequate, Respondent has statutory authority to conduct an audit on the basis of:

    1. test or sampling of the dealer's available records or other information relating to the sales or purchases made by such dealer for a representative period. (Emphasis supplied)

       
       

       § 212.12(6)(b).

17. Subsection 212.12(6)(b) is the statutory basis for the proposed agency action. The Notice of Decision, in relevant part, cites Subsection 212.12(6)(b) as statutory authority for the proposed assessment.

18. The available records were adequate for the auditors to use sampling authorized in Subsection 212.12(6)(b) based on Petitioner's federal tax information.4 For example, the auditors could have used the gross profit percentage reported for the federal tax year during the audit period in which Petitioner reported a profit (the profit year) to increase either: the cost of goods sold reported for federal tax purposes during the operating loss years, or the undisputed purchase invoice costs that Petitioner provided to Respondent.

19. Respondent does not assert in its PRO that the proposed assessment is authorized by Subsection 212.12(6)(b). Rather, Respondent reasons at paragraph 23, page 9, of the PRO that the proposed assessment is based on an estimate authorized in Subsection 212.12(5)(b).

20. Subsection 212.12(5)(b) would have authorized Respondent to "make an assessment" against Petitioner "based on an estimate from the best information then available" (emphasis supplied) if it were shown that Petitioner failed or refused to make records available, Respondent suspected fraud, or any of the other statutory prerequisites for an estimate existed.

    However, it is undisputed that none of the statutory prerequisites for an estimate authorized in Subsection 212.12(5)(b) exist in this proceeding.

21. The Notice of Decision does not reference Subsection 212.12(5)(b), much less cite Subsection 212.12(5)(b) as authority for the proposed assessment. Nevertheless, the auditors estimated unreported gross sales for state tax purposes (unreported sales) based on three field visits to the store.5

22. In the first field visit, an auditor walked through the store with one of Petitioner's employees and compared the sale price marked on selected goods with costs recorded in the purchase invoices for those goods. The auditor estimated that Petitioner marked up purchase invoice costs for all goods by 50 percent (the 50 percent markup).

23. The auditor estimated sales tax due on unreported sales in four steps. First, the auditor estimated gross sales by marking up the cost of goods sold on Petitioner's federal tax returns by 50 percent. Second, the auditor multiplied the estimated gross sales by 33.33 percent; a percentage derived from the ratio of taxable sales to gross sales (taxable sales ratio) reported by Petitioner. The auditor used the mathematical product of that calculation as the estimated taxable sales. In the third step, the auditor multiplied estimated taxable sales by the effective tax rate to estimate

    the total tax. Finally, the auditor estimated that the tax due on unreported sales was equal to the difference between the estimated total tax and the amount of taxes paid.

24. The auditors were not satisfied. The auditors believed the taxable sales ratio reported by Petitioner was lower than the actual taxable sales ratio. The parties reached an audit agreement during a meeting conducted on December 8, 2005, subject to Petitioner's objection to an assessment based on any sampling or estimate.

25. Each party determined a taxable sales ratio based on Z-tapes that were available from July 16 through November 2005 (the representative period) and applied the taxable sales ratio back over the entire audit period. Prior to the representative period, an auditor made a second field visit and identified certain goods, including potato chips, which he believed employees were incorrectly selling as non-taxable items. The auditor asked the employees to keep register tapes for the representative period in accordance with his instructions.

26. After the second visit to the store, store employees kept Z-tapes during 141 shifts. The Z-tapes for the 141 shifts provide a "sample . . . for a representative period" within the meaning of Subsection 212.12(6)(b).

27. Respondent determined the applicable taxable sales ratio to be 55.2 percent.6 A certified public accountant (CPA)

    retained by Petitioner determined that the taxable sales ratio during the representative period was 43 percent.

28. The auditors were not satisfied. They conducted a third "field visit" to the store prior to March 1, 2006.

29. In the third field visit, auditors again viewed goods for sale on store shelves. The auditors estimated the taxable sales ratio to be 75 percent and retained the 50 percent markup. Based on selected goods the auditors viewed on store shelves, the proposed assessment incorrectly estimates unreported sales using a taxable sales ratio and markup of 75 and 50 percent.7

30. The 50 percent markup lacks economic reality. The markup is necessarily limited to selected items and does not accurately reflect actual markup for all goods sold. Nor does the markup accurately reflect the impact of construction on Petitioner's business within the meaning of Rule 12-.0012(3)(b).

31. Petitioner presented credible and persuasive testimony that the correct markup is 23 percent. That testimony is consistent with evidence sanctioned in Rule 12-3.0012(3)(b) that the industry operates on a markup of only 20 percent.

32. A taxable sales ratio of 55.2 percent is reasonable and accurately reflects economic reality. The taxable sales ratio of 55.2 percent was correctly determined by a sampling method authorized in Subsection 212.12(6)(b). The sampling method used to determine a taxable sales ratio of 55.2 percent

    is consistent with the legislative description of sampling in Subsection 212.12(6)(c) that the Legislature authorizes when available records are adequate but voluminous.8

33. If the proposed assessment were correct, Respondent should not assess any penalties against Petitioner. It is undisputed that an alleged failure to maintain adequate records was unintentional and that Petitioner fully cooperated in the audit. On July 10, 2007, Petitioner paid Respondent an additional $47,727.41; comprised of additional tax totaling

    $35,589 and accrued interest of $12,138.41.

    
    

    CONCLUSIONS OF LAW

    
    

34. DOAH has jurisdiction over the subject matter and parties in this proceeding. §§ 120.569, 120.57(1), and 212.12, Fla. Stat. (2007). DOAH provided the parties with adequate notice of the administrative hearing.

35. Respondent has the initial burden of proof.

    
    

    Respondent must make a prima facie showing of the factual and legal sufficiency of the assessment. § 120.80(14)(b)2. The burden of proof then shifts to Petitioner to show that it does not owe any amount or owes less than the amount assessed.

36. Respondent did not make a prima facie showing of legal sufficiency. The prima facie case did not satisfy the statutory prerequisites in Subsection 212.12(5)(b) or (6)(b) for an assessment based on an estimate or sample.

37. The proposed agency action is based on Subsection 212.12(6)(b). The Notice of Decision that Respondent issued relies on Subsections 212.12(6) and 212.12(5)(a) and does not cite Subsection 212.12(5)(b).

38. Respondent attempts in its PRO to amend the basis for the proposed agency action from Subsection 212.12(6)(b) to Subsection 212.12(5)(b). See Respondent's PRO, paragraph 23, page 9. The latter statute pertains to audits in which the dealer fails or refuses to make records available and, in such cases, authorizes Respondent to "make an assessment from an estimate based upon the best information . . . available."

39. It is undisputed that Petitioner did not "fail or refuse" to make records available within the meaning of Subsection 212.12(5)(b). Rather, the parties dispute whether Petitioner maintained "adequate records" within the meaning of Rule 12-3.0012(3).

40. Findings of fact concerning the adequacy of records, the correct taxable sales ratio, and the correct markup are the exclusive province of the trier of fact. Those findings are not infused with agency policy or expertise. Conklin Shows, Inc. v. Department of Revenue, 684 So. 2d 328, 331 (Fla. 4th DCA 1996).

41. Respondent cited no statute or rule that defines relevant terms such as adequate records, taxable sales ratio, and markup. The record evidence does not set forth a reasonable

    basis to support a finding that an interpretation of the relevant terms requires special agency insight or expertise. Respondent did not articulate any underlying technical reasons for deference to agency expertise. Johnston, M.D. v. Department of Professional Regulation, Board of Medical Examiners, 456 So. 2d 939, 943-944 (Fla. 1st DCA 1984).

42. The proposed taxable sales ratio and markup of 75 and

    
    

    50 percent are based on three field visits by the auditors. Two of the visits yielded different taxable sales ratios. The PRO submitted by Respondent cites no statute or rule that defines the sampling authorized in Subsection 212.12(6)(b) to mean the field visits evidenced in this proceeding.

43. The only legislative description of sampling is found in Subsection 212.12(6)(c). The estimate proposed by Respondent is not consistent with the legislative description of sampling.

44. The two field visits that Respondent used to estimate a taxable sales ratio produced taxable sales ratios that ranged from 55.2 to 75 percent. A margin of error in excess of 35 percent9 exposes the inherent unreliability of a field visit as a "sampling" method authorized in Subsection 212.12(6)(b).

45. Respondent proposes agency action based on a statutory interpretation that attempts to equate an estimate with sampling. That statutory interpretation is clearly erroneous.

46. Taxing statutes such as Subsections 212.12(5)(b) and (6)(b) are to be strictly construed against Respondent. Allied

    Marine Group v. Department of Revenue, 701 So. 2d 630, 631 (Fla. 4th DCA 1997)(citing Department of Revenue v. Anderson, 403 So. 2d 397, 399 (Fla. 1981) (although taxing statutes are to be strictly construed against the taxing authority, exemptions are to be strictly construed against the taxpayer). A strict construction of Subsection 212.12(6)(b) limits sampling to the "dealer's available records" or other dealer information and does not include an estimate authorized in Subsection 212.12(5)(b) based on the "best information available."

47. Legislative intent is the "polestar" that guides statutory interpretation. Florida Department of Revenue v. New Sea Escape Cruises, LTD., 894 So. 2d 954, 957 (Fla. 2005). The Legislature did not intend the reference to a "dealer's available records" to be synonymous with the "best information available" Compare §§ 212.12(5)(b) and (6)(b). The Legislature does not intend to enact redundancies.

48. The Legislature may authorize administrative agencies to interpret, but never to alter statutes. Carver v. State of Florida, Division of Retirement, 848 So. 2d 1203, 1206 (Fla. 1st DCA 2003) (citing Cortez v. State Board of Regents, 655 So. 2d 132, 136 (Fla. 1st DCA 1995)). An administrative agency has statutory authority to propose only that agency action that

    implements or interprets the specific powers and duties granted by the enabling statute. § 120.52(8).

49. Even one or more of Respondent's rules were to define sampling authorized in Subsection 212.12(6)(b) to mean the field visits evidenced in this proceeding, rulemaking is authorized in furtherance of statutory authority and not to amend, expand, or enlarge statutory authority. Willette v. Air Products and Bassett and Department of Labor and Employment Security, Division of Workers' Compensation, 700 So. 2d 397, 399 (Fla. 1st DCA 1997). In Willette, the court wrote:

    
    

    Id.

    Executive branch rulemaking is authorized in furtherance of, not in opposition to, legislative policy. Just as a court cannot give effect to a statute (or administrative rule) in a manner repugnant to a constitutional provision, so a duly promulgated rule, although "presumptively valid until invalidated in a section 120.56 rule challenge [citations omitted]," must give way in judicial proceedings to any contradictory statute that applies.

    
    

50. The separation of powers doctrine provides that no

branch of government may encroach upon the powers of another and that no branch may delegate its power to another branch. Fla.

Const., Art. II, § 3. The second prohibition is the non- delegation doctrine. Chiles v. Children A, B, C, D, E, and F,

589 So. 2d 260, 264-266 (Fla. 1991). Respondent must administer legislative programs pursuant to minimal standards and

guidelines ascertainable by reference to statutory terms enacted by the Legislature. Id.

RECOMMENDATION

Based on the foregoing Findings of Fact and Conclusions of Law, it is

RECOMMENDED that Respondent enter a final order assessing sales tax based on the available records maintained by Petitioner, and, if sampling is authorized, using a taxable sales ratio and markup that do not exceed 55.2 and 23 percent, respectively.

DONE AND ENTERED this 4th day of March 2008, in Tallahassee, Leon County, Florida.

S

DANIEL MANRY

Administrative Law Judge

Division of Administrative Hearings The DeSoto Building

1230 Apalachee Parkway

Tallahassee, Florida 32399-3060

(850) 488-9675 SUNCOM 278-9675

Fax Filing (850) 921-6847 www.doah.state.fl.us

Filed with the Clerk of the Division of Administrative Hearings this 4th day of March, 2008.

ENDNOTES

1/ References to chapters, sections, and subsections are to Florida Statutes (2001) unless otherwise stated.

2/ Witnesses refer to cash register receipts in their testimony as Z-tapes as does Respondent in paragraph 5 of its PRO.

3/ The state fiscal year for sales tax purposes begins on May 1 and ends on April 30. The three years in the audit period were May 1, 2002, through April 30, 2003; May 1, 2003, through

April 30, 2004; and May 1, 2004, through April 30, 2005. Respondent prepared an explanation of changes that refers to four federal tax years, which are: 2002, 2003, 2004, and 2005. Petitioner reported federal taxes based on a calendar year. The explanation of changes in Respondent's Exhibit 13, entitled "Support Schedule #2, Revision #1, Calculation of estimated monthly taxable sales," appears to calculate unreported sales tax for the entire federal tax year of 2002. However, the first four months of that federal tax year precede the beginning of the state tax audit period and are beyond the scope of the audit.

4/ Respondent has assessed sales tax in the past based on a dealer's federal tax reporting position. See Carter Wolf Interiors, Inc. v. Department of Revenue, Case No. 04-4126 (DOAH February 4, 2005)(assessing sales tax on gross sales reported for purposes of the federal income tax but not reported for purposes of the state sales tax). A state agency is bound by the doctrine of administrative stare decisis to follow its final orders in similar cases involving similar facts.

5/ The auditors testified that they did not have the information to test the operating losses reported for federal tax purposes, "so we had to use an estimate." Transcript (TR), page (P) 50, lines (L) 15-20. The auditors estimated gross sales using a

50 percent markup over purchase invoice costs. TR, P 52, L 7-9. Because the auditors determined they didn't have "any" sales records, they were "required to estimate." TR, P 52, L 22-25 and TR, P 53, L 1-2. Other testimonials can be read in TR;

PP 74, 78, 80, 89, 99, 102, 119, and 149.

6/ The auditors separated cash receipts for each store shift into sales tax collected, non-taxable sales, and taxable sales. The auditors divided taxable sales by total sales, reduced by the amount of Lotto sales, to determine the ratio of taxable sales to total sales. The taxable ratios for each day of the Z-tapes were added and then divided by the total number of shifts to determine an average taxable sales ratio of 55.2 percent. Petitioner argues that the Z-tapes generated during the representative period exaggerated the percentage of taxable sales because the auditor gave store employees inaccurate

instructions regarding taxable sales and non-taxable sales. A preponderance of evidence does not support Petitioner's proposed findings.

7/ The field visit did not cover a "representative period," within the meaning of Subsection 212.12(6)(b), because the visit lasted less than one business day; included only 12 sodas,

18 beer items, some cigarettes, and shrimp; excluded a multitude of other products sold by Petitioner; and lacked economic reality as a representation of Petitioner's operating product mix, turnover, profit margin, and taxable sales.

8/ When dealer records are adequate but voluminous, Subsection 212.12(6)(c), in relevant part, authorizes statistical sampling to determine sales tax ratios in accordance with an audit agreement between the parties.

9/ The margin of error is calculated as follows: 75 less 55.2 equals 19.8 divided by 55.2 equals 35.8 percent.

COPIES FURNISHED:

John Mika, Esquire

Office of the Attorney General The Capitol - Tax Section Tallahassee, Florida 32399-1050

Delbert Ackerman

6 to 12 Store 2 Inc. 5610 Cynthia Lane

Naples, Florida 34112-2309

Jeremiah J. Doran, Jr.

Jerry Doran & Associates, LTD 710 A Main Street

Port Jefferson, New York 11777-2223

Marshall Stranburg, General Counsel Department of Revenue

The Carlton Building, Room 204

501 South Calhoun Street Post Office Box 6668

Tallahassee, Florida 32314-6668

Lisa Echeverri, Executive Director Department of Revenue

The Carlton Building, Room 104

501 South Calhoun Street Tallahassee, Florida 32399-0100

NOTICE OF RIGHT TO SUBMIT EXCEPTIONS

All parties have the right to submit written exceptions within

15 days from the date of this Recommended Order. Any exceptions to this Recommended Order should be filed with the agency that will issue the Final Order in this case.

Docket for Case No: 07-003163

Orders for Case No: 07-003163