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City of Alameda Moves Forward With Contingency Fee Business Tax Audit Effort

The City of Alameda is moving forward with a contingency fee business tax audit program.Last week, without discussion, Alameda City Council approved an effort proposed by City Manager John Russo that would see a for-profit firm, on a contingency basis, conduct a business license and tax audit that would identify businesses operating in Alameda who have not paid the necessary business permit fees and taxes.

The effort is expected to raise $151,000 of which, Municipal Auditing Services of Fresno, California, will be paid 40%, or $91,000. $61,000. (Corrected: City of Alameda expects to net $91,000, out of the ~$151,000)

Such contingency fee audits can be problematic, says, Professor Annette Nellen, of the San Jose State University College of Business. Ms. Nellen is a CPA, instructs within the Department of Accounting and Finance, and writes extensively on tax policy and reform at the federal, multistate and California levels.

“It raises privacy concerns,” she told Action Alameda News. “Will this third-party firm have access to private personal or business information that they shouldn’t see, or will they re-use the data they collect for other purposes, like taking it to another jurisdiction to highlight potential audit targets there. Many people are surprised to get a letter from a third-party, and don’t want to give information to a third-party.”

Also, she said, third-party contingency fee companies are motivated only to find underpayments, which generate revenue for the firm. Government auditors tend to focus on ensuring that taxpayers pay the right amount of tax, including identifying and making adjustments for any overpayments.

Nellen provided a link to an American Institute of CPAs position statement issued this year that said contingency fee audit arrangements are likely to compromise the integrity of the tax system, and that “the contract auditor also has an incentive to close the audit to the detriment of the taxpayer.”

Likewise, in 2011, the National Conference of State Legislatures issued a resolution that opposed the use of contingency fee audits, saying that “contracting with third parties to conduct taxpayer audits on a contingent fee basis, governments may provide an incentive to the third-party auditor to arbitrarily inflate a taxpayer’s liability because a larger audit assessment results in a larger payment to the auditor.”

Earlier this month, the San Gabriel Valley Tribune reported that Municipal Auditing Services caused a stir with local businesses in Covina, California, when they sent out bills to people who denied doing business in the city.

City Manager John Russo’s report to City Council notes that Alameda has contracted with Municipal Auditing Service in the past, and, indeed, a 2005 San Francisco Chronicle story noted two businesses based outside of Alameda that were hit up by the firm for taxes owed.

At the time, then-Chief Financial Officer for the City of Alameda said, “If a CPA has an office in San Ramon and sends stuff to a client here, he is not conducting business in Alameda. But if he comes to Alameda and sits down with a client, that is the conduct of business and he needs a license.”

With the license comes an obligation to file annual tax returns and pay tax on revenue.

The City of Alameda requires that home based businesses must also apply for an occupation permit, which must be submitted at City Hall in person.

Professor Nellen said that alternatives to profit-motivated third-party audits include amnesty programs and flat-fee contracts with third-party companies to help the city simply identify businesses that might need to be licensed, rather than chasing the businesses themselves.

She also said that municipalities should examine how easy it is for business operators – especially newly self-employed – to know about the obligation to get a license and pay taxes, and how easy it is to comply with the rules.

7 comments to City of Alameda Moves Forward With Contingency Fee Business Tax Audit Effort

  • Your math is wrong, 40% of 151 is 61K.

  • Good catch, thanks. The City of Alameda expects to net $91,000, and pay MAS 40% of revenue collected. Backing into it, that’s $91K/60% = ~$151,000 and 40% * $151,000 = $61,000

  • We received this letter a few years back from a third party on official letterhead giving the appearance from City of Alameda. It indicated as mentioned above that if you “sit down” or have a body sales person etc. that enters Alameda you must have a license.

    This is BS, it would mean many companies would have to have a business licence for every city in the entire state of CA and but business out of business. We contacted the State Board of Equalization which said it was BS and we disregarded the demanding letter.

    Sales taxes are recorded and the means in which cities are compensated for goods or services conducted in the respected city. In my opinion they are scam artists. Now I await our audit for speaking out but this is a serious issue, You panic when you get the letter and then find out it is really designed to have you spend time to send all your records to a THIRD PARTY so they can see if the State has not allotted the city appropriate taxes.

  • Sections 5-2.1 and 5-2.7 of Alameda municipal code speak to the issue.

    It looks like the City of Alameda is information sharing with the Board of Equalization to help find should-be licensees. i.e. If you remit sales tax to the BOE from an Alameda address, City of Alameda expects you to have a license. (Prof. Nellen did raise this as a viable way to identify should-be licensees.)

    The M.O. does appear to be to send a threatening letter that makes it look cheaper to just pay the invoice than to fight.

    Some businesses may be exempt under federal Interstate commerce rules. Look it up or consult an attorney, but the idea is that the local municipality can’t interfere with interstate commerce.

  • David, The BOE already communicates data to the city direct, per BOE, this is the city using an outside firm to try and fish for any discrepancies the BOE may have shorted the city, except they send letters to businesses OUTSIDE Alameda, which we are, and explain we are NOT complying with Alameda business licenses laws and therefore are to send all our data to them. I understand the city’s concern about collecting taxes but letting the foxes out to collect the eggs from the hens lets the foxes run WILD which reflects on the city good or bad. Who are they accountable to? What recourse does the city have if they overstep their bounds. When we received our letter on behalf of the city we assumed the city sanctioned it, thereby had their stamp of approval. You get the jist,

  • Oh, can somebody explain to me how the city knows how much money they will get? If they know who owes how much, can’t they collect themselves and eliminate the middle man. Or is it one of those estimations based off estimations? Thanks for allowing me to vent but I am Third generation Alamedan and Family corporation (Oakland) and started at a young age and am shocked at the incompetence of the individuals that actually run the show in our cities and scares the heck out of me.

  • According to the staff report (below) the city isn’t staffed to do the audit.

    It doesn’t say, however, how they arrive at the estimate. But the two letters from the organizations speaking against contingency fee audits suggest that statistical analysis might be used to arrive at an estimate of the outstanding delinquent fees/taxes.

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