A recent letter of findings by the Indiana Department of Revenue found that a retail merchant was required to collect sales tax on retail unitary transactions and also held that the merchant was liable for a fraud penalty.[1]

Retail Unitary Transactions

The taxpayer was in the business of installing, maintaining and repairing heating and air conditioning (HVAC) systems. The taxpayer was audited by the Department of Revenue on two different occasions, once in 2005 and again in 2014. The taxpayer performed HVAC services in which it charged its customers a single price for both materials and services. That single price included the cost of materials with markups. These were found to be "retail unitary transactions." While services generally are not subject to sales and use tax, if tangible personal property is also transferred for consideration as part of services rendered, this also constitutes a retail merchant transaction selling at retail unless certain conditions are met. 45 I.A.C. 2.2-4-2(a). Those conditions include a requirement that the service provider is primarily in the business of furnishing services as distinguished from tangible property; the property in the transaction is used or consumed as a necessary incident to the service; the price charged for the property is inconsequential (not to exceed 10 percent compared with the service charge); and the service provider pays gross retail tax or use tax at the time it acquires the tangible personal property. (See I.C. § 6-2.5-4-1.) Here, the taxpayer argued that it was not responsible for collecting sales tax because it had paid sales tax at the time it acquired the materials from its suppliers. The taxpayer offered some documentation of this but the DOR found that this documentation was incomplete. The Department's imposition of sales and use tax for retail unitary transactions was based upon the totality of the circumstances.

The 2005 audit found that the taxpayer had not filed the required sales tax returns and had not paid the required sales tax, but allowed a credit for sales tax which the taxpayer had paid when it initially purchased the materials which were subsequently resold as part of its services. After the 2005 audit, the taxpayer filed one sales tax return reporting zero sales tax initially, stopped filing its returns thereafter and ceased doing business in 2013.

Fraud Penalty

In 2014 the Department conducted a second audit covering years subsequent to those covered in the first audit. The Department's imposition of the fraud penalty was based upon the results of the 2014 audit. This time, based upon the best information available at the time of the second audit, it was found that the taxpayer failed to maintain adequate records, failed to properly and timely file the required returns and failed to pay the required sales tax. The 2014 audit also imposed a further 100 percent penalty for knowingly failing to comply with Indiana law. I.C. § 6-8.1.10-4 imposes a penalty for any fraud in the amount of 100 percent of the tax due. The statute imposes this civil penalty in place of, and not in addition to, other penalty imposed by statute. Additionally, any taxpayer who knowingly fails to file a return or pay a tax due commits a Class A misdemeanor. Id. The letter of findings reviewed the legal elements of fraud, including misrepresenting a material fact which is known to be false or believed not to be true in order to evade taxes. Negligence, whether slight or great, is not the equivalent of the intent required for a fraud penalty.

The Department imposed the fraud penalty in this case because the taxpayer had been audited previously on exactly the same issues and had failed to comply with Indiana law subsequently, even after the taxpayer was on notice of such violation. Specifically, the 2014 audit found the taxpayer had failed to maintain adequate records and source documents as required by statute and did not timely or properly file sales tax returns after the 2005 audit.


The fraud penalty is certainly something no taxpayer wants to see imposed on them. In this case, the Indiana Department of Revenue appears to have taken issue with a taxpayer who had continued the same practices that resulted in additional tax in a prior audit, when the taxpayer knew that the Department disagreed with its practices. Taxpayers often continue to take a position, particularly when they continue to protest or otherwise contest a Department of Revenue’s position. Here, the taxpayer apparently ceased filing returns, until audited again. Simply being on notice that the Department disagrees with a taxpayer’s position would appear to be insufficient, by itself, to support the imposition of a fraud penalty absent other extenuating circumstances even though that was the stated reason for imposing the fraud penalty. The lesson here is that if a taxpayer wants to continue to take a position that is different from that of the Department, then that taxpayer should insure that the Department is on notice of its disagreement, e.g. by protesting disclosing as appropriate and continuing to maintain its right to take its position.