1 BEFORE THE CALIFORNIA STATE BOARD OF EQUALIZATION 2 5901 GREEN VALLEY CIRCLE 3 CULVER CITY, CALIFORNIA 4 5 6 7 8 REPORTER'S TRANSCRIPT 9 OCTOBER 20, 2010 10 11 SALES AND USE TAX APPEAL HEARING 12 APPEAL OF 13 GWANG HYUN SONG and KEUM J. SONG 14 (ITEM C3) 15 AGAINST PROPOSED ASSESSMENT OF 16 SALES AND USE TAX 17 18 19 20 21 22 23 24 25 Reported by: Kathleen Skidgel 26 CSR No. 9039 27 28 1 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 P R E S E N T 2 For the Board Betty Yee of Equalization: Chair 3 Jerome E. Horton 4 Vice-Chair 5 Barbara Alby Acting Member 6 Michelle Steel 7 Member 8 Marcy Jo Mandel Appearing for John 9 Chiang, State Controller (per Government Code 10 Section 7.9) 11 Diane G. Olson 12 Chief, Board Proceedings Division 13 14 For Board of David Levine Equalization Staff: Staff Counsel 15 16 Kevin Hanks Chief, Headquarters 17 Operations Division 18 Robert Tucker Tax Counsel 19 20 For Department: Scott Lambert Tax Counsel 21 22 For Petitioner: Justin Park 23 24 ---oOo--- 25 26 27 28 2 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 5901 GREEN VALLEY CIRCLE 2 CULVER CITY, CALIFORNIA 3 OCTOBER 20, 2010 4 ---oOo--- 5 MS. YEE: Let's move on to the next item. I'd like 6 to see if we can get through item C3. And I believe C4 and 7 C5 are consolidated -- 8 MS. OLSON: Yes. 9 MS. YEE: -- presentations. And then we'll recess 10 for lunch after this. 11 MS. OLSON: Okay. 12 MS. YEE: If C6 is here, we can notify the 13 petitioner. 14 MS. OLSON: Okay. We'll do that. 15 MS. YEE: Okay. 16 MS. OLSON: So our next item is C3, Gwang Hyun Song 17 and Keum J. Song. Please come forward. 18 MS. YEE: Good morning. Thank you for your 19 patience. Let me have the Appeals Division introduce your 20 matter. Mr. Levine. 21 MR. LEVINE: The issues in this petition are 22 whether adjustments are warranted to the audited unreported 23 taxable sales, whether cigarette rebates should be regarded 24 as non-taxable because petitioner did not collect tax 25 reimbursement on them, and whether petitioner was 26 negligent. 27 MS. YEE: Thank you very much. Good morning. 28 MR. PARK: Good morning. My name is Justin, Justin 3 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 Park. 2 MS. YEE: Okay. 3 MR. PARK: I might look familiar to some of the 4 staff because -- including Board Members, because I used to 5 work in this office until four years ago, as a tax auditor. 6 I was the one who arranged the chairs for the Board hearing 7 and then making copies. 8 MS. YEE: Thank you. Welcome back. 9 MR. PARK: I am here -- today I am on the other 10 side of the Board, you know, representing the case. 11 This case is Alta Dena Glendora case. I been 12 engaged in the business in this representation not too long 13 ago, so this is new, new information presented to you 14 today. 15 The audit, audit working paper includes 10 percent 16 of cigarettes sold in carton instead of single pack. Even 17 though this is like Alta Dena Drive-In, drive-through 18 business, the main focus today is going to be on the 19 cigarette issue. 20 There are two different kinds of customer who comes 21 to buy the cigarette, single pack or cartons. All the 22 working paper disclosed a estimated 10 percent of cigarette 23 sold is carton. The auditor did perfect job, pretty 24 detail, except I don't know why he didn't do the actual 25 test of the number of cigarettes sold versus -- cigarette 26 sold in single pack versus carton. 27 So I had the taxpayer to perform one week of test. 28 And that test is memo one that I provided to you this 4 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 morning, that disclosed 25.05 percent instead of 10 percent 2 estimated. So this is the actual result based on six days 3 test, rather than 10 percent estimated by auditor. 4 The taxpayer claims it's going to be 30 percent, 5 but based on six days it's only 25 percent. That is 6 number -- that is issue number one. 7 Second issue that I'm going to present today is the 8 last page of the memo that I provided to you. This is not 9 an actual resale certificate, but I think it has all the 10 elements of the retail certificate. What they did was they 11 have brother, sister, and his parents operating same kind 12 of business in different location in LA County. And one of 13 the brother is a disabled person, you know, driving special 14 cargo van for the wheelchair, riding wheelchair, handicap 15 person. 16 So this taxpayer said let me go to buy cigarette 17 and then give to you, dropping off to the brother. And 18 this is the statement that I got. If you can see the date 19 on the fax, I got it yesterday. They were talking about 20 it, you know, among the family members, whether they were 21 going to issue the statement or not. Finally they signed 22 it. And the statement says about $50,000 per year of the 23 cigarette is dropped off at the taxpayer's brother's house, 24 which they live close by, in Glendora. 25 Item number three, a 10 percent negligence penalty. 26 I know the percentage of failure is pretty high, even 27 though the Department is going to decide, okay, we're going 28 to give you this. Even though the Department is going to 5 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 allow $50,000, the percentage of failure is going to be 2 huge. I agree on it. 3 But considering this is the first audit for the 4 taxpayer and a portion of the taxable measure, additional 5 taxable measure is coming from the cigarette rebate, even 6 when I was working for the BOE, there was some confusion 7 some part of the time, whether what is going to be -- what 8 percent of the cigarette rebate is going to be taxable or 9 not. 10 So I agree it is taxable. I agree it is taxable. 11 But since that issue is included in the audit, and because 12 of the 25 percent and $50,000 purchases per year to the 13 brother, selling to the brother, if you can -- I'm not 14 asking for to waive 10 percent negligence penalty, but I'm 15 asking you a favor to remove the 10 percent negligence 16 penalty on this case. That's it. 17 MS. YEE: Thank you very much, Mr. Park. 18 MS. STEEL: Madam Chair, just quick. 19 MS. YEE: Ms. Steel, yes. 20 MS. STEEL: You didn't mention anything about the 21 self-consumption for these taxpayers. Can you? 22 MR. PARK: I figure that the self-consumption and 23 the pilferage is too minimum. I remember, I think the 24 Department allowed one percent of pilferage. But usually 25 the Department allows two percent. But one percent, I 26 don't think is going to make big change. But if you -- the 27 Department can give me the favor to increase to two 28 percent, I'll take it. 6 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 MS. STEEL: Mr. Park, I think you are representing 2 this taxpayer. Anything helps for this taxpayer. I think 3 you should ask for it. 4 MR. PARK: Okay. Sorry. 5 MS. STEEL: Without asking, you're not going to get 6 it. 7 MR. PARK: Okay. 8 MS. STEEL: So if that pilferage is two percent, 9 you should ask for two percent. And self-consumption, that 10 a lot of times the taxpayer misses it because they think 11 that isn't tax-related. So you know because you used to 12 work for BOE. I think you should ask for those, too. 13 MR. PARK: Okay. 14 MS. STEEL: So I'm kind of just giving you another 15 suggestion. 16 MR. PARK: Thank you. 17 MS. YEE: Thank you, Mr. Park. We'll give you time 18 on rebuttal. Okay. 19 Department, please. 20 MR. LAMBERT: Good morning, Madam Chairwoman and 21 Members. My name is Scott Lambert, and I'll be 22 representing the Sales and Use Tax Department today. To my 23 right is Kevin Hanks, also with the Sales and Use Tax 24 Department, and to Mr. Hanks' right is Robert Tucker with 25 the Legal Department. 26 The petitioner operates a drive-in dairy, selling 27 grocery items, beer, wine, cigarettes, tobacco, and 28 miscellaneous taxable, doing business as Alta Dena Drive-In 7 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 Dairy. The business started May 2000. The audit covered 2 the period July 2003 to June 2006. This was the 3 petitioner's first audit. 4 Initially the reported sales were compared to the 5 income tax returns and the profit and loss statements with 6 no differences noted. The overall markup of record for 7 2004 was 31 percent, for 2005 it was 40 percent. The 8 Department found these markups to be reasonable for this 9 type of business. 10 Next, the Department obtained possession of 11 petitioner's purchases for Sam's Club for the period July 12 2004 to June 2005. Those purchases totaling $182,000 were 13 compared to the recorded figures in the petitioner's 14 records of $43,000. $139,000 in Sam's Club taxable 15 purchases were not recorded in the records. 16 The Department decided to confirm the petitioner's 17 purchases with the other known vendors for the fiscal year 18 '04 through '05. The audited taxable purchases totaled 19 $259,000 The recorded taxable purchases for this same time 20 period was only $118,000 Therefore, $141,000 in taxable 21 purchases were not recorded for just that one year alone. 22 From this amount, one percent was removed for pilferage. 23 An amount was not removed for self-consumption. The 24 petitioner stated that they only had minimal 25 self-consumption. 26 It should be noted that the petitioner purchased a 27 small amount of taxable consumable supplies from Sam's Club 28 without the payment of tax that were not included in the 8 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 audit. This was considered to be an offset for the 2 possible self-consumption of inventory. 3 A shelf test was conducted using the purchase price 4 for October 2006 purchase invoices and sales prices 5 obtained orally from the petitioner during November 2006. 6 The audited, weighted taxable markup was established as 7 19.84 percent. This was accepted but was considered to be 8 low for this type of business. 9 The 19.84 percent markup was applied to the audited 10 taxable purchases for the period July 2004 to June 2005. 11 The audited taxable sales of 334,000 were compared to 12 reported taxable measure of 161,000 to establish a 13 percentage of error of 108 percent. The 108 percent error 14 rate was applied throughout the audit period to establish 15 unreported taxable sales of $538,000. It was also found 16 that the petitioner had unreported cigarette rebates of 17 $97,000 and a 10 percent penalty was added for negligence. 18 The petitioner disagrees with all or a portion of 19 all three areas of the audit. The petitioner disagrees 20 with the cigarette and tobacco markup of 13.21 percent. 21 The petitioner believes that their carton sales of 22 cigarettes are closer to 25 or 30 percent rather than the 23 10 percent allowed in the audit. 24 If it is assumed that the carton sales were 25 25 percent, the cigarette and tobacco markup would be 11.42 26 percent instead of the audited 13.21 percent. The overall 27 markup would be 18.74 instead of the audited 19.84. 28 The Department disagrees with allowing the 9 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 increased carton sales for the following reasons: 2 One, the petitioner has provided no 3 documentation -- and at the end of my written presentation 4 I'll address what's been presented here -- such as cash 5 register tapes, to its assertion that sales of cartons of 6 cigarettes account for more than 10 percent of the 7 cigarettes sold. 8 Two, the weighted average markup is only 19.84 9 percent. If the petitioner's position is accepted, the 10 weighted taxable markup would be lowered to 18.74 percent. 11 This is lower than what would be expected for this type of 12 business. It should be emphasized that the sales prices 13 were obtained orally from the petitioner. We would 14 generally expect the markup for taxable sales to be at 15 least 25 percent for a business of this type. 16 Three, the main reason though for not lowering the 17 cigarette and tobacco markup, is that other tobacco 18 products, known as OTP, were not included in the shelf 19 test. Generally the markup for OTP is significantly higher 20 than the markup for cigarettes. Taking the OTP markup into 21 account would more than offset for the difference of 22 allowing a higher carton sale percentage. 23 Regarding cigarette rebates, the petitioner states 24 that they did not collect sales tax from their customers on 25 the rebates and therefore should not be responsible for 26 paying the tax. The petitioner concedes that the rebates 27 at issue are subject to tax. The tax law provides no basis 28 for relief of tax because the petitioner did not collect 10 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 sales tax reimbursement. Sales tax is imposed on the 2 retailer, measured by the retailer's gross receipts from 3 the retail sale of tangible personal property in 4 California. Although a retailer may collect reimbursement 5 for the tax from its purchaser, the retailer's liability is 6 not dependent on whether or not such reimbursement has been 7 collected. 8 Regarding the negligence penalty, the petitioner 9 contends this is their first audit. In addition, they 10 request leniency because they cannot afford to pay the 11 audit liability. The Department believes the negligence 12 penalty is applicable because the understatement is both 13 substantial in size and represents a significant percentage 14 of error of over 100 percent. Not only did the petitioner 15 under-report taxable sales, they under-reported total sales 16 as well. The amount and number of unrecorded taxable 17 purchases was substantial. 18 The petitioner operated a couple of previous 19 businesses that required that sales and use tax returns be 20 filed, and therefore, should have been knowledgeable about 21 the requirements of maintaining proper records. This is 22 all an indication that the taxpayer was negligent in both 23 record-keeping and reporting. 24 A current sales and use tax audit is currently 25 being performed. Although the petitioner reported more 26 taxable sales quarterly, they continued to have both 27 recording and reporting problems. The petitioner did not 28 provide either a sales/purchase journal, no Sam's Club 11 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 purchase invoices were provided, and some of the other 2 purchase invoices were found to be missing also. The 3 audited purchases were, again, found to be higher than that 4 claimed on the income tax returns. For these reasons the 5 Department concurs with the Appeals Division's decision and 6 recommendation. 7 In regards to the submission by the petitioner, I 8 do note that the information provided appears to be a 9 handwritten ledger. There aren't cash register tapes 10 provided to substantiate this. From my experience, it's 11 not unusual for this type of business to have anywhere from 12 a 10 to a 30 percent sale of cartons. It's usual in this 13 type of business. But that would be more than offset by 14 just taking, say, 10 percent of OTP into account. Normally 15 the markup on that is substantially higher than cigarettes. 16 In this case they were getting rebates on a certain 17 percentage of those. 18 In regards to the last statement about the sales 19 for resale, I note that the petitioner is not licensed to 20 resale cigarettes and that there is no documentation 21 provided to show that these sales were in fact made. I 22 will note that these purchases were made from Sam's Club 23 and that any member of Sam's Club could go in there to 24 purchase cigarettes. So I'm not quite sure why they would 25 need to go through the brother to purchase these. But 26 without documentation, the Department wouldn't accept this 27 on the face of it. 28 That concludes the presentation. 12 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 MS. YEE: Okay. Thank you, Mr. Lambert. 2 Mr. Park, you have five minutes on rebuttal. 3 MR. PARK: In regards to the books and records 4 provided to the auditor, you know, if you imagine that kind 5 of facility where people drive in, people, employees, they 6 carry the changes and they know how much it's going to be, 7 the cost, the selling price of each item. They don't go to 8 cash register to ring the cash register after each 9 transaction. What they did is they hand one Coke to the 10 buyer, dollar fifty. And then he pays $2, he gives 50 11 cents change. There is no cash register to be rang at the 12 facility. It's not the taxpayer is hiding something from 13 BOE. They just don't do it. 14 And then regards to the list that I presented 15 today, there's a date, and the taxpayer asked me how 16 detailed should I be? You put the name of the cigarette, 17 brand, you know, and then how much you are selling for. 18 And then he says, no, I have no time to do it. Then I 19 said, a list, you put the date and the hour. Hourly. So 20 between 8:00 to 9:00 you sold how much? From 9:00 to 10:00 21 you sold how much? So looks like this list seems to be 22 pretty detailed, in my opinion, even though, you know, it's 23 not hundred percent perfect. 24 Regards to the don't have license for resale of the 25 cigarette, I agree on that portion. But why the brother 26 didn't go to Sam's Club, like I mentioned earlier, he's a 27 handicap person. He has problem going to the store where 28 normal people can go. So this taxpayer was doing a favor 13 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 to his brother by dropping them off. I don't know if you 2 can call it selling it or reselling to other retailer. 3 It's one of the favors to the family member because he has 4 special problem. 5 I know that auditor projected the percentage of 6 error based on one year. So if you can accept the 7 statement of $50,000 -- $50,000 is not exact amount. It 8 can be 40, it can be 60. But this is estimate based on 9 their belief, best estimate by -- made by the taxpayer and 10 his brother. That's it. 11 MS. YEE: Thank you, Mr. Park. Let me ask you, the 12 information in the memos that you provided today is not 13 contemporaneous information with respect to the period in 14 question. Was there any ability to reconstruct the same 15 information for the period? 16 MR. PARK: Say that again, please? 17 MS. YEE: The audit period before us is 2003 to 18 2006. The information you've provided here is not 19 contemporaneous with that period. Is there any ability to 20 reconstruct that information? 21 MR. PARK: No. 22 MS. YEE: Okay. Thank you. Questions, Members? 23 MS. STEEL: Question. 24 MS. YEE: Ms. Steel. 25 MS. STEEL: To the Department. First one is that 26 you cannot accept this because it's handwritten and not the 27 cash register receipts. But Department just assumed, and 28 you said that 10 to 30 percent is reasonable for the 14 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 taxpayers that asking for cartons versus packs. And I 2 think assumption that, you know, we didn't do the test and 3 we just assumed that it was 10 percent versus a list 4 taxpayer came out with, even it's handwritten note, that 5 this is what they sell. So I think this is reasonable. 6 That's my first comment. 7 And second comment is for the negligence penalty 8 here. This is the first time audit, first. And second, 9 that try to help a brother who is handicapped and they 10 bought these for approximate figure of $50,000 and they got 11 the receipt that they got the declaration here, if we count 12 this that brother received these cigarettes from this 13 taxpayer, then can you drop the negligence penalty? 14 MR. LAMBERT: Okay. Just one second. 15 MR. HANKS: Ms. Steel, actually, I had one 16 question, and perhaps the petitioner's representative can 17 assist us with that. I'm wondering if the brother has a 18 seller's permit, are those sales of cigarettes then being 19 reported to the Board? 20 MR. LAMBERT: In regards to the carton sales and 21 what they've provided here, if that's your determination, 22 that that's acceptable, that's probably a reasonable 23 expectation. And I'm just noting that there's no 24 substantiation to back this up, that this is what it is. 25 MS. STEEL: But our assumption 10 percent is not 26 really backing anything either. 27 MR. LAMBERT: And that is true. 28 MS. STEEL: That's why, Mr. Lambert, you started 15 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 that is reasonable number here, so that's why I'm asking 2 you. 3 MR. LAMBERT: And you -- if all things being equal, 4 probably at the time we did the audit and they presented us 5 with this documentation, we may have probably would have 6 accepted that. With that said, it should be noted that the 7 OTP purchases are not included in the cigarette markup, 8 when we came up with the 13 percent markup. Also -- and 9 the taxpayer does sell other tobacco products. They sell 10 the Copenhagen and such not. It is also -- I can't think 11 of the right word -- usual, I'll use, that a business will 12 sell 10 percent OTP, up to 25 percent. And generally the 13 markup for that is substantially higher than cigarettes. 14 It can range anywhere from 30 to 50 percent on the OTP 15 purchases. If you just consider that 10 percent of the 16 purchases were OTP and it had a 30 percent markup, our 17 cigarette and tobacco markup should be higher than what we 18 have in the audit, even with 25 percent of the cigarette 19 sales in cartons. 20 And I will note that there is no guarantee in this 21 audit that we have all the purchases. We polled the known 22 vendors. A substantial amount of purchases were paid with 23 cash that were not available to us. We have no idea 24 whether we have all the purchases or not. And so when you 25 take a look at the 10 percent penalty, the fact that they 26 have currently over a hundred percent reporting problem and 27 you have unrecorded purchases, it's a substantial problem. 28 Now, getting to your point that if you take the 16 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 $50,000 assumed sales of cigarettes and take those out, I 2 think you still have the same problem. One, you have to 3 get over the hurdle that they're selling things to the 4 brother with no documentation, apparently. This could be 5 40,000, could be $60,000. We have no idea what -- there's 6 no documentation that that in fact happened. And in fact 7 it's against the law for them to do that. 8 MS. STEEL: We've been seeing that for a lot of 9 times, remember, that swap from each store, especially that 10 this taxpayer's brother is handicapped person that -- and 11 another thing is, Mr. Lambert, you mention about that you 12 cannot give self-consumption because, I didn't really hear 13 that part. 14 MR. LAMBERT: I'll explain it. First of all, the 15 taxpayer stated that they didn't have self-consumption. 16 But beyond that -- 17 MS. STEEL: You know how it goes. 18 MR. LAMBERT: I understand. 19 MS. STEEL: The taxpayer's coming and then they get 20 scared they might have to pay another extra taxes. 21 MR. LAMBERT: Right. 22 MS. STEEL: That's the reason that they do that. 23 MR. LAMBERT: I understand that possibility. 24 Beyond that, they were purchasing personal items from Sam's 25 Club under a resale certificate, and that was not included 26 in the audit. And the auditor made the assumption that the 27 difference between what they would have consumed and what 28 they purchased from Sam's Club with a resale certificate 17 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 would offset each other. What I will mention is that this 2 is a low markup. So the fact that they even might have 3 been taking a hundred dollars out, there's less than a 20 4 percent markup, which would mean that you're really 5 just -- 6 MS. STEEL: Mr. Lambert, yes or a no? 7 MR. LAMBERT: Excuse me? 8 MS. STEEL: Yes or no? 9 MR. LAMBERT: Oh, yes or no, okay. Well, I'm not 10 sure what I'm yesing or noing to. 11 MS. STEEL: Self-consumption and pilferage. 12 MR. LAMBERT: Oh, pilferage. 13 MS. STEEL: You gave only one percent and plus 14 self-consumption. Are you willing to give them? That's 15 what I'm asking. 16 MR. LAMBERT: No. 17 MS. STEEL: Which one, self-consumption or 18 pilferage, that you're going to give them higher or just 19 one percent? 20 MR. LAMBERT: We gave them one percent on pilferage 21 and the Department -- 22 MS. STEEL: But it's one to two percent that I've 23 been hearing for the last four years. 24 MR. LAMBERT: I don't believe so. And I think, 25 when you take a look at their -- 26 MS. STEEL: I've been sitting here the last four 27 years. 28 MR. HANKS: He's not disagreeing with that. It's 18 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 the one percent. 2 MR. LAMBERT: No, I'm not disagreeing with that. 3 What I'm saying is that this is a drive-in dairy, that the 4 people are bringing it to them in the cars, that the 5 chances of people taking it are reduced. And from that 6 standpoint, and also I believe they're in maybe a higher 7 economic area, and you tend to see less theft in those type 8 of areas. So I would say the one percent is sufficient. 9 MS. YEE: So you allowed one percent for pilferage. 10 Is there an adjustment on self-consumption because -- 11 MS. STEEL: Getting tougher and tougher to the 12 taxpayer. 13 MS. YEE: No. There was an explanation on the 14 self-consumption because there had been an assessed tax on 15 purchases for personal use. 16 MS. STEEL: But pilferage is still -- 17 MR. LAMBERT: That's correct. There had not 18 been -- 19 MS. YEE: There had not been. 20 MR. LAMBERT: -- because of the purchases from 21 Sam's Club. 22 MS. YEE: From Sam's Club. So that was used to 23 offset that. 24 MS. STEEL: I got that part. But pilferage, the 25 other hand, customers are coming in and then driving 26 through, so that might be that, you know, most likely a lot 27 of times it's stolen. I mean, it's not even bad area. A 28 lot of times they have to carry out. I'm not doubting any 19 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 customers that they are bad people. But, you know, still 2 that it might happen, so maybe we should give at least 3 pilferage a little higher than one percent for this kind of 4 stores. 5 Let me ask Mr. Park here, that taxpayers understand 6 English and they speak English? 7 MR. PARK: Just a little bit, yes. 8 MS. STEEL: Did they understand what audit means, 9 that when auditors, you know, went through? 10 MR. PARK: They do. They do. 11 MS. STEEL: Okay. Mr. Park, how many cases did you 12 handle for taxpayers? 13 MR. PARK: Board hearing, this is my first time. 14 And then other than -- what do you mean, as an auditor or 15 as a representative? 16 MS. STEEL: Representing. 17 MR. PARK: Last two years, like 15 cases. 18 MS. STEEL: So how did you do with those 15 cases? 19 MR. PARK: There are bad guys, there are good guys. 20 So I can't really tell. 21 MS. STEEL: No, because I want to see a little more 22 detail, you know, because you've been working for BOE. So 23 I think for taxpayers, I know you did your best. But, you 24 know, for I've been asking for pilferage and, you know, 25 self-consumption and, you know, there was cigarette buying 26 and gift to brothers. If it was a little more clear, you 27 know, to me, I believe taxpayer and taxpayer's brother 28 writes this because they always afraid that when they write 20 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 this kind of letters they might going to get audited after 2 this. So, you know, this is a lot of courage that these 3 taxpayers come out and try to write this kind of letter for 4 the brother. So I am kind of, like, looking at that, you 5 know, if you went a little more detail of this case, you 6 know. 7 MR. PARK: I reviewed the audit working paper 8 prepared by the auditor. I look at it, oh, pretty detail. 9 The auditor did very good job. I was looking for any gap 10 into it. Couldn't find anything. He did pretty good job. 11 I mean, personally, it looks like he did pretty good job. 12 MS. STEEL: You can't really say here that auditor 13 did a great job. 14 MR. PARK: No, no, no, no, no. Let me tell you 15 why. He did everything that he could do, and I don't know 16 why he did not do the test. And I'm presenting new 17 information to the Board Members and they said, no, audit 18 is completed you are providing after the audit, we are not 19 going to take it. No, auditor did everything that he can 20 do. And I'm presenting the new case. 21 And then if the Department is not taking the number 22 that I prepared after, then what kind of work did the 23 auditor did? I mean, everything looks okay, except I'm 24 presenting reasonable supporting document to the Board. 25 MS. STEEL: So you're just asking for the 25 26 percent of the carton sales? 27 MR. PARK: Plus $50,000 purchases. 28 MS. STEEL: Plus $50,000 for purchases. 21 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 MR. PARK: Let me add one more thing. If the 2 Department is not comfortable with that statement only, the 3 taxpayer's brother is willing to sign the XYZ letter. 4 MS. STEEL: So is that going to be helpful if that 5 taxpayer's brother is going to write XYZ letter? 6 MR. LAMBERT: It seems like it's the same thing. 7 MS. STEEL: Mr. Lambert, no matter what, you're not 8 going to accept it then? I'm asking that extra documents 9 here -- how are you going to accept this, the $50,000? 10 It's going to be average $50,000. 11 MR. LAMBERT: Yeah. 12 MR. HANKS: If I could respond to that, Ms. Steel. 13 We would certainly accept that type of documentation. If 14 there are $50,000 worth of these sales for resale that are 15 being made to his brother, then there has to be some 16 evidence of invoicing or depositing of the proceeds from 17 those sales. Certainly we would look at that and make 18 adjustments for that if that were documented. But we'd 19 need to see those transactions. 20 MS. STEEL: That's reasonable. Taxpayer can 21 provide, you know, cash, you know, got it from the brother, 22 because he must have got paid from his brother when he 23 delivered $50,000 worth of cigarettes, right? 24 MR. LEVINE: I'd note, also, that I'm guessing the 25 Department would probably flag the brother's account 26 because on audit they have the same -- 27 MS. STEEL: Mr. Levine, let's not go that far. 28 MR. LEVINE: Well, they're connected. They're 22 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 connected. If they're purchasing things, that's part of 2 the reason why they have the burden, the taxpayer has the 3 burden. 4 MS. STEEL: How about the checks or that brother 5 paid to this taxpayer by check or, you know, anything that 6 you have your client deposited or anything here. 7 MR. PARK: He goes to buy merchandise. He brings 8 the merchandise in his cargo van, $2,000 cigarette. He 9 comes, drop off, $1,000 cigarette to his brother, takes the 10 money and go. 11 MS. STEEL: Right. That money, how he deposit it? 12 MR. PARK: I don't know. 13 MS. STEEL: Can you prove that, if you have more 14 time? 15 MR. PARK: I didn't ask what kind of supporting 16 document does the taxpayer have, because usually the 17 Department takes the XYZ letter. If the Department does 18 not take the XYZ letter, what is going to be the use of the 19 XYZ letter? 20 MS. STEEL: I totally agree with you. But 21 Department is asking a little more. 22 MR. PARK: The brother is taking the risk of 23 signing the information. You know, family in a small 24 community, disclosing their information to governmental 25 agencies, especially taxing agency, they feel like they're 26 asking for the audit. That's why they waited five years to 27 sign the statement. And if that statement is not enough, 28 and then one of the form approved and used by BOE, XYZ 23 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 letter, if the DRE -- if the BOE is not taking XYZ letter 2 that the Department issued, I don't know. 3 MS. STEEL: Mr. Levine. 4 MR. LEVINE: If this was before Appeals, we would 5 not accept this letter without verification. It's just an 6 unfortunate circumstance. It's not -- on the one hand, 7 it's not legal to do. We recognize that sometimes people 8 do things like this anyway. So we accept this is possible. 9 When the Department goes in and audits the brother, 10 if they're doing a markup audit and this is not in the 11 records, this does not get picked up. The brother doesn't 12 say, oh, don't forget the 40 or 50,000 in cigarettes that I 13 paid off the books. 14 So we have a linkage problem. And I agree, if they 15 prove that they dropped it off to the brother, legal or 16 not, it reduces the amount of sales. But they just have a 17 problem proving that. It just takes a little bit more. 18 And the XYZ letter is always subject to verification, the 19 reg makes that very clear. 20 MS. STEEL: But can your taxpayer provide some of 21 the checks or cash as being deposited because of delivery 22 of these cigarettes? 23 MR. PARK: If the taxpayer deposits $200,000 into 24 the bank -- I don't know how much -- $200,000 into the 25 bank, and $50,000 belongs to the cash that they received 26 from his brother, how are you going to distinguish 27 between -- in $200,000 which one is $50,000 from the 28 brother and which one is 150 from the other person? 24 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 MS. STEEL: So cash register -- 2 MR. PARK: No cash register. 3 MS. YEE: Mr. Horton. 4 MR. HORTON: Thank you, Madam Chair. 5 Mr. -- sir, the taxpayer, is the brother still in 6 business? 7 MR. PARK: Yes, he is. 8 MR. HORTON: Currently? 9 MR. PARK: Yes. 10 MR. HORTON: And he has a seller's permit? 11 MR. PARK: Yes. 12 MR. HORTON: And he's willing to assume the 13 liability for this 50,000, presuming that that's continuing 14 to happen on a monthly basis? I mean, I agree, he's taking 15 a risk in that he's indicated that in addition to his 16 recorded purchases of cigarettes, that there are unrecorded 17 purchases currently of $50,000, was it a month? 18 MR. PARK: No, a year. 19 MR. HORTON: A year. And the taxpayer's aware of 20 that? 21 MR. PARK: Yes. 22 MR. HORTON: Okay. Question of the Department, 23 somewhat of a statement. On occasions what the 24 Department -- the Department's testimony will be, had we 25 taken this into consideration, presumably we should have 26 taken it into consideration or we should have documented 27 its effect in the audit working papers to some degree. Was 28 that done in this case? 25 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 MR. LAMBERT: As far as? 2 MR. HORTON: OTP. 3 MR. LAMBERT: OTP. 4 MR. HORTON: Cash purchases. 5 MR. LAMBERT: Did they acknowledge that there were 6 those purchases? 7 MR. HORTON: In the audit working papers, did the 8 auditor indicate that cash purchases may have existed, I 9 guess -- I don't want to categorize it -- but cash 10 purchases were not taken in consideration? 11 MR. LAMBERT: Yeah, that wasn't -- that wasn't the 12 exact point I was trying to make in the case about the OTP 13 not being -- 14 MR. HORTON: Let's just take the purchases. Let's 15 do it one at a time. 16 MR. LAMBERT: Okay. 17 MR. HORTON: So, if I recall, you indicated that 18 one of the reasons that self-consumption and adjustments of 19 self-consumption and an adjustment to carton cigarettes 20 would not affect the outcome of the audit was because the 21 purchases, the tests in the audit only included, or did not 22 include, if you will, cash purchases. And so am I -- 23 MR. LAMBERT: Maybe I didn't probably make it 24 clear. There's two separate areas here. On the OTP what 25 happened was we took a purchase from Sam's Club, one, in 26 order to do the shelf test. We took a purchase from Sam's 27 Club and there was no OTP on the purchases during that time 28 period. On that day that they went to purchase, there was 26 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 no OTP. 2 So I'm not claiming that there were OTP purchases 3 that were cash purchases that weren't in the records. What 4 I'm saying is, is that -- 5 MR. HORTON: No, no, no. I bifurcated the two. 6 I've separated the two. 7 MR. LAMBERT: Okay. 8 MR. HORTON: So let's just take OTP. 9 MR. LAMBERT: Okay. 10 MR. HORTON: And I'm not really speaking to whether 11 the OTP was included in the purchases relative to the 12 markup test or not. 13 MR. LAMBERT: Okay. 14 MR. HORTON: I'm speaking to your experience or 15 your expression of experience of this type of business in 16 this industry that OTP does exist. I believe your 17 testimony that you believe that it represents somewhere 18 around 10 percent of the sales or purchases or so forth. 19 However, the affect of the OTP sales was not 20 included in the markup test, therefore, yielding a lower 21 markup than what should have been calculated had the 22 auditor taken in consideration the OTP purchases and sales. 23 And where I'm going is, is that the concern, if you 24 will, is that if we go in, and "we" being the Board of 25 Equalization, goes in and identifies -- the intent of the 26 test is to attempt to be as accurate as possible. And so 27 when you know that there's a category, up or down, in this 28 case it happens to be what affected upwardly, and you don't 27 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 take that in consideration, theoretically, you should -- 2 not should, but I would hope that some comment would have 3 been made. Because the concern is, is that you're asking 4 us to accept the evidence presented to us prospectively. I 5 mean -- and consider what should have been done 6 retroactively. 7 I am sort of getting close to a point of just 8 simply saying, whatever was done in the audit was correct 9 and was done. And any additional information is a 10 prospective assessment. Therefore, saying to the 11 Department that what we should of, could of, would of did, 12 is not significant at this point. We didn't. And so the 13 only adjustments that we're going to take into 14 consideration, or I'm going to take into consideration, are 15 the ones that are presented here before me, unless that's 16 mentioned in the audit working papers. 17 So let's go back to the original question. 18 MR. LAMBERT: Okay. 19 MR. HORTON: Was it mentioned in the audit working 20 papers? 21 MR. LAMBERT: Was OTP mentioned? Tobacco was 22 mentioned, yes. 23 MR. HORTON: And its effect in the markup was 24 mentioned? 25 MR. LAMBERT: It was not. 26 MR. HORTON: Now you also, separate from OTP, you 27 spoke about cash purchases, that you believe that the 28 purchases in the markup test or the recorded purchases, 28 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 audited recorded purchases, only reflected the actual 2 purchases for which you had an invoice and that possibly 3 there could have been cash purchases for which are not 4 reflected in the audited purchases; is that correct? 5 MR. LAMBERT: That is correct. 6 MR. HORTON: And was there a statement in the audit 7 that said they believe cash purchases existed? Is there 8 any evidence that the auditor felt that for some reason his 9 recorded purchases was not conclusive, representative of 10 what actually took place? 11 MR. LAMBERT: There was not. There was a mention 12 of concern over purchases in general, to have all of them. 13 But there wasn't specifically a mention about cash 14 purchases. And I guess really you can modify the statement 15 I made in regards to the cash purchases, I guess, to any 16 kind of purchases. But that comment was made in regards to 17 the negligence penalty and the application of it and the 18 poor record-keeping. It wasn't in regards to the markup 19 test in and of itself. 20 MR. HORTON: So you're not asking this body to 21 take -- in considering whether or not we should allow 22 additional pilferage or additional self-consumption or 23 allow the 25 percent carton ratio, you're not asking us to 24 take into consideration that the fact that the OTP was not 25 included in the original markup test and the fact that -- 26 or presume a fact that there was cash purchases, you're not 27 asking us to take that into consideration in weighing these 28 other factors? 29 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 MR. LAMBERT: As far as unrecorded purchases are 2 concerned, that is correct. I'm not asking -- 3 MR. HORTON: Just the OTP? 4 MR. LAMBERT: Just the OTP, because there is no 5 question that OTP is sold by the taxpayer, that we noted 6 the OTP purchases when we did the audit, and that it is 7 absent in the markup of the cigarettes and tobacco. 8 There's no question. 9 MR. HANKS: If I can add, though, we are providing 10 information relative to the OTP markup that wasn't 11 calculated. And more or less suggesting with that 12 information that's not in the audit working papers before 13 us, that that would offset, to the extent that that 14 adjustment was made -- 15 MR. HORTON: The 25 percent ratio. 16 MR. HANKS: -- that would offset any increase in 17 the cigarette carton sales that weren't scheduled in the 18 audit. So we are asking for those elements be 19 considered. 20 MR. HORTON: Yeah, let me reiterate that, that 21 testimony -- I don't want to say it has the same weight as 22 this letter, but it is a condition subsequent to the audit 23 and the investigation. And if it's not embodied in the 24 audit, we're making a presumption based on our experience, 25 which somewhat entitles the taxpayer to make the same 26 presumption based on their experience. 27 MR. LAMBERT: Well, that is somewhat correct in 28 terms of you're saying, well, we came up with 10 percent on 30 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 the cigarettes. Obviously that was a estimate on the 2 Department's part. There's no question about that. A more 3 detailed test, as I mentioned -- 4 MR. HORTON: No, no, no, no, no. I'm speaking of 5 the OTP. I don't believe that there was an estimate made 6 in the audit at all on OTP. 7 MR. LAMBERT: There wasn't. 8 MR. HORTON: And that its impact was considered in 9 the audit at all. 10 MR. LAMBERT: That is correct. And I guess the 11 point -- 12 MR. HORTON: And that the testimony here is 13 subsequent to the performance of the audit and it's based 14 on your experience that it should exist. 15 MR. LAMBERT: No, that's not completely true. 16 MR. HORTON: What's your basis for the OTP? 17 MR. LAMBERT: That it's noted in the audit that 18 there is OTP, that it was verified. 19 MR. HORTON: No, I mean what's your basis for the 20 percentages of OTP -- 21 MR. LAMBERT: Oh, 10 percent? 22 MR. HORTON: -- and how it affects the audit? Is 23 it in the audit? 24 MR. LAMBERT: Well, that is true, as far as I'm 25 saying it normally goes between 10 to 30 percent. Yes, 26 that's my estimate. 27 MR. HORTON: That's a subjective judgment. 28 MR. LAMBERT: That's a subjective judgment on my 31 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 part. 2 MR. HORTON: That's my point. 3 MR. LAMBERT: But there's no question that they do 4 sell OTP, and there's no question that it was not included 5 in the markup test which appears to be a problem. If you 6 take a look, even moving from a 10 percent cigarette to a 7 25 percent carton sales, you're going to adjust the overall 8 markup just over a total of one percent. That's what it's 9 going to move. So really my point was -- 10 MR. HORTON: So what if the OTP was -- what if I 11 said I think it's two percent? 12 MR. LAMBERT: Two percent, then it probably would 13 not cover it, unless it was a 50-percent markup, then if 14 you took 10 percent of -- or two percent times 50, it would 15 be one percent. And if you add the one -- 16 MR. HORTON: I got it. This is kind of like 17 reading tea leaves. But anyway, thank you very much. That 18 has been interesting. 19 MS. YEE: Thank you, Mr. Horton. 20 Ms. Mandel, yes. 21 MS. MANDEL: Now I'm confused about the 22 self-consumption because the Department said that -- you're 23 saying that on the self-consumption, if the Board were so 24 inclined on self-consumption, that you're not saying the 25 fact that there was purchase -- cash purchases at Sam's 26 Club for personal items that were not picked up, that 27 you're saying don't consider that, that you were only 28 talking about that for the negligence penalty. But the 32 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 Appeals D and R, I thought, said they thought it would 2 offset it and therefore they were not making any adjustment 3 to self-consumption anyway. So maybe I just got confused 4 by this interchange. 5 MR. LAMBERT: Well, maybe I didn't make it clear. 6 And so I will attempt to. The cash -- the comment about 7 cash sales did not relate to the Sam's Club purchases. 8 MS. MANDEL: Oh, okay. 9 MR. LAMBERT: There's no question that we have the 10 Sam's Club purchases and they issued a resale 11 certificate -- 12 MS. MANDEL: Right. 13 MR. LAMBERT: -- for self-consumed items. So 14 there's no question about that. This isn't a 15 hypothetical. 16 MS. MANDEL: Okay. 17 MR. LAMBERT: And so we're saying that we did not 18 include that in the audit. 19 MS. MANDEL: Right. 20 MR. LAMBERT: And that that -- and that the 21 taxpayer says they didn't have any self-consumption, which 22 may or may not be true. But the markup's so low that if 23 they did have some self-consumption, it would be offset by 24 the X tax -- 25 MS. MANDEL: Okay. 26 MR. LEVINE: The bottom line is you'd need more 27 than five times as much self-consumption that was picked up 28 in the sales as the documented X tax purchases for 33 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 consumption to break even. 2 MS. MANDEL: Okay. Thanks. 3 MS. YEE: Thank you, Ms. Mandel. 4 Other questions, Members? Hearing none, may I have 5 a motion, please? 6 MR. HORTON: Move to take it under submission. 7 MS. MANDEL: Second. 8 MS. YEE: Motion by Mr. Horton to take the matter 9 under submission, second by Ms. Mandel. Without objection, 10 such will be the order. 11 Thank you, Mr. Park. 12 MR. PARK: Thank you. 13 MS. YEE: We'll discuss your matter later today. 14 MR. PARK: Thank you. 15 MS. YEE: Thanks. 16 (The matter concluded at 12:45 p.m.) 17 ---oOo--- 18 19 20 21 22 23 24 25 26 27 28 34 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333 1 REPORTER'S CERTIFICATE 2 3 State of California ) 4 ) ss 5 County of Sacramento ) 6 7 I, KATHLEEN SKIDGEL, Hearing Reporter for the 8 California State Board of Equalization certify that on 9 October 20, 2010 I recorded verbatim, in shorthand, to the 10 best of my ability, the proceedings in the above-entitled 11 hearing; that I transcribed the shorthand writing into 12 typewriting; and that the preceding pages 1 through 34 13 constitute a complete and accurate transcription of the 14 shorthand writing. 15 16 Dated: November 23, 2010 17 18 19 ____________________________ 20 KATHLEEN SKIDGEL, CSR #9039 21 Hearing Reporter 22 23 24 25 26 27 28 35 TOWN & COUNTRY DEPOSITION SERVICE (530) 642-0333