Some taxpayers intentionally employ vague contract language. Clients most commonly share that they use vague contracts because (1) a form is the industry standard or (2) they want to be able to capture as much work under one master contract as possible without negotiating a separate contract. Whatever the reason, I have two problems with vague contracts. First, how can your accounting staff ensure the tax treatment is correct if the transaction isn’t fully documented? Second, how can an auditor determine the tax treatment was correct, especially if an exemption was granted? The failure to be clear can be very expensive when the sales tax auditor comes to call.
Auditors review contracts to determine the scope of work performed. The contract should draw a clear picture of what is being purchased and payment terms. If contract terms are vague, an auditor has the discretion to look at all circumstances and make a determination based on the evidence presented. If you want the auditor to reach a certain conclusion, document the transaction in such a way that the desired conclusion is the only reasonable one available. It boils down to documentation. Make sure the documentation is clear and brief. If documents are made a part of the contract, ensure all of those documents paint the same picture as the main contract. Documents, such as invoices, pay applications, plans, change orders, etc. can be made part of contracts. If these items are part of the contract, each item will directly impact the tax treatment.
Don’t rely on an auditor to reason that the transaction is not taxable if all documents do not support that conclusion. The auditor may not reach that conclusion. And, again, the taxpayer may have the burden of proving the audit is incorrect. It is an expensive, time-consuming proposition that may prove futile.