When we started ZacTax two years ago, the internal debate over providing sales tax audit services was intense. In the end, we decided to release ZacTax without a finder’s fee based audit platform. Instead, we released a beta version of what later became our patent pending audit tool, which is included for free with your ZacTax subscription.

Our reasoning behind this business decision was two-fold: we want to have a relationship with our clients that’s built on trust, and we have a fundamental problem with the finder’s fee business model. We think that explaining our thought process can provide some value to the debate that has been occurring over the last few weeks in the sales tax world. In this post, we'll talk about the trust aspect; next time, we'll talk about the business model.

A relationship built on trust

Simply put, we want our clients to trust us. With our audit tool, you can perform sales tax audits in-house, without the steep finder’s fee (typically 30%), and without the kernel of doubt that may exist when a consultant holds the data of multiple jurisdictions.

Before going any further, I want to be very clear: it is not our position that you cannot trust sales tax audit firms. We personally know and respect many of these individuals and businesses, and have used them ourselves in the past.

However, we made a principled decision to avoid at all costs the potential appearance of a conflict of interest among our clients.

A war of words

Many of you have read the emails going back and forth between MuniServices and Lewis McClain. In the interest of full disclosure, both Chad and Patrick took a course with Lewis in the UNT MPA program. Patrick made a “B” and is still a little bitter about it. Of course, Chad made an “A” and won’t let Patrick live it down. We’ve also used MuniServices for both audit and analysis services.

We also are not trying to step in the middle of the back-and-forth, nor of the cease and desist letters. However, this issue is important to us as sales tax analysts and as public administrators, and we feel that we can add value to the conversation.

How sales tax audit works

Understanding the business model of sales tax audit firms is important. They make money (typically 30% of what they find above the nominal annual fee) if they find taxpayers that aren’t reporting properly. While it’s not uncommon that a business is simply not remitting taxes at all, frequently, the issue is that they’re paying the wrong jurisdiction. When the issue is corrected, the audit firm receives some percentage of the revenue that is shifted to the correct jurisdiction.

Let’s take a quick example: City A has a franchised fast food restaurant, the owner of which also has a location in City B. Franchisee is incorrectly remitting all of his or her sales taxes to City A. Audit firm identifies the problem, and the Comptroller determines that $50k should be reallocated from City A to City B. Comptroller takes the $50k from City A and gives it to City B. Audit firm bills City B for the agreed upon percentage of the $50k.

That’s the process in a nutshell. The audit firm finds the discrepancy, the Comptroller conducts the audit and corrects the mistake (that’s one of the things you pay them for, after all), and the audit firm takes a cut.

Avoiding the perception of impropriety

This becomes a potential conflict of interest when one firm holds the confidential data files for multiple jurisdictions. The possibility that one’s data may be used against them is one of the most common concerns that we have heard over the past 10 years in local government.

To be clear, Texas law does not allow the data to be used in this manner, and we are not accusing anyone of doing so. The problem is that perception can quickly become reality. We chose to avoid the possibility that we could be perceived in that way.

In our view, all Lewis McClain is trying to do is to point out the obvious and inform the close community of local government professionals to be diligent. We find nothing wrong with Lewis notifying the community of local government professionals of the possible improprieties that could occur, especially given the vast sums of money that are involved.

For the sake of good governance, we encourage our colleagues to ask the tough questions of the sales tax revenue consultants. Pay attention to how revenue is “found”, and use your network of professional colleagues to monitor the possibility of conflicts.

We may be crazy, but the trust of our clients is more important than the millions of dollars collected each year through audit finder's fees.

Be sure to read part two, where we talk about the business model of sales tax auditing.