taxes

Audit Procedures for Cigarette Tax

Chapter 3 – Entrance Conference

Introduction

The entrance conference is a meeting between the auditor and the taxpayer or taxpayer' designated representative, prior to beginning the examination of the taxpayer' books and records. This is generally the first face-to-face meeting between the taxpayer or representative and the auditor.

The entrance conference builds the foundation of a good audit and generally sets the tone of the auditor' relationship. Make the taxpayer aware of the purpose of the audit and what to expected during the course of the fieldwork.

Entrance Conference with a Texas Distributor

Use the following checklist to prepare a list of questions to discuss with the taxpayer/representative during the entrance conference.

  • Meet with the taxpayer or their representative.
  • Determine the taxpayer' knowledge of the law.
    • Discuss the taxpayer' interpretation of both the law and rules.
    • Is the taxpayer aware of recent changes in tax policy/law affecting the business?
  • Discuss the business activity.
    • What are the types of customers?
    • Does the taxpayer sell via their company stores or other retail?
    • How are the cigarettes/stamps stored?
    • Identify types of non-taxable sales.
    • Who are the suppliers?
    • Is there a secured area for cigarettes?
  • Discuss the taxpayer' accounting system and reporting activities.
    • Determine the taxes to be audited.
    • What types of records are available to conduct the audit?
    • Where are the records located?
    • Who prepares the report? Have there been any personnel changes?
    • What are the step-by-step procedures used by the taxpayer to prepare the return?
    • What internal controls are in place to ensure that all cigarettes are reported?
    • How are purchase invoices and bills of lading filed?
    • What method is used for accounting for interstate sales?
    • How are freight claims handled for lost or stolen cigarettes?
    • On what days are cigarettes received?
  • Discuss inventories (stamped /unstamped cigarettes).
    • What type of inventory facilities does the taxpayer have? Where are they located? What is their capacity?
    • Are the inventories physical or book? Are the two ever reconciled?
    • How often and when are physical inventories taken?
    • Are the reported beginning inventories the same as the last month' reported ending inventories?
    • Were any tax-free inventories acquired? (Example: Purchasing a distributor' unstamped inventory.) Was proper accounting used for these inventories?
  • Discuss purchases.
    • How are the purchases recorded and compiled for the reports?
    • Are purchases recorded and reported on the date received or the date invoiced?
    • If the purchases were reported as received, how are the damaged and returned cigarettes accounted for?
  • Verify the data from the history with the taxpayer and complete any appropriate file maintenance.
  • Request a tour of the premises. Observe stamping operation and spot check stamped cigarette cartons for proper stamping.

Entrance Conference with an Out-of-State Distributor

Use the following checklist to prepare a list of questions to discuss with the taxpayer/representative during the entrance conference.

  • Meet with the taxpayer' representative.
  • Determine the taxpayer' knowledge of the law.
    • Discuss the taxpayer' interpretation of both the law and rules.
    • Is the taxpayer aware of recent changes in tax policy/law affecting the business?
  • Determine business activity.
    • What are the types of customers?
    • Does the taxpayer sell via their company stores or other retail?
    • How are the cigarettes/stamps stored?
  • Discuss the taxpayer' accounting system and reporting activities.
    • Determine the taxes to be audited.
    • What types of records are needed to conduct the audit?
    • Where are these records located?
    • Who prepares the reports? Have there been any personnel changes?
    • What are the step-by-step procedures used by the taxpayer to prepare the return?
    • What internal controls are in place to ensure that all cigarettes are reported?
  • Verify the data from the history with the taxpayer and complete any appropriate file maintenance.
  • Discuss the stamp inventory.
    • What type of inventory facilities does the taxpayer maintain? Where are they located? What is their capacity?
    • Are the inventories physical or book? Are the two ever reconciled?
    • How often and when are physical inventories taken?
    • Are the reported beginning inventories the same as the last month' reported ending inventories?
  • Determine how shipments to Texas recorded and compiled for the reports?
  • Request a tour of the stamping area and observe the stamping operation.

Types of Records

The types of records maintained for cigarette tax are unique to the industry because the number of cigarettes rather than dollars and cents are being recorded. Typical records include:

  • Receiving reports
  • Invoices
  • Shipping documents
  • Purchase orders
  • Stamp purchase invoices

Note: The person who prepares the returns for the taxpayer will generally have summaries, work papers, computer runs, etc. filed with the taxpayer' copy of the returns.

Tour of Premises

Request a tour of the premises. The tour can be beneficial in:

  • Determining the storage facility capacity
  • Observing the stamping operation
  • Verifying the unstamped cigarettes are separated from stamped cigarettes
  • Testing cartons of cigarettes for proper stamping

Agreement to Extend the Period of Limitation

Obtain a statute waiver, if necessary. The 67th Legislature established a four-year statute of limitations for all taxes. The legislature also allowed for an extension of the statute of limitation up to two years on any single agreement. An Agreement to Extend the Period of Limitation form is used to extend the statute. The form, once signed by the auditor and authorized taxpayer representative, constitutes a legal document. It establishes a new expiration date for specific reporting periods to allow for the completion of an audit. See the Auditing Fundamentals Manual for more information.

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(Revised 09/2010)