By Robert S. Schriebman
The latest buzz word in the audit world is "transparency." The EDD, IRS, and FTB want to know all about how you conduct your business. They want a transparent audit. They are looking at you internally and how you run your business. The new quest for transparency is causing headaches to both the taxpayer and the professional representative. There are risks that confidential trade information may be inadvertently disclosed. EDD inquiries should be limited to issues involving employment taxes and worker status (employee vs. independent contractor). The EDD does not have to know how products are made or how the taxpayer stays competitive.
I recently attended a tax controversy institute. One of the hottest topics was the government's right to probe into the internal affairs of the taxpayer's business. One speaker, an attorney, said that his approach was to file a power of attorney with the IRS and make the point that as the taxpayer's representative, "he became the taxpayer" thus providing insulation between the IRS and his client. The next person to speak was a high-ranking IRS audit executive from Washington D.C. made it very clear that this tactic was out the window. The IRS wants to deal with the taxpayer-employer on a one-to-one basis. I believe it will not be long before the EDD will adopt the same point of view as currently held by the IRS.
The typical EDD audit begins with an initial notice entitled Inquiry Regarding Records. This introductory letter informs the "employer" that the company has been selected for an employment tax audit by the EDD. The letter goes on to request that the EDD be contacted within 14 days of the notice date to arrange an in-person EDD taxpayer-employer interview. Along with the Inquiry Regarding Records is a Pre-audit Questionnaire and the standard notice of documentation required by the EDD for the audit. This article will not discuss what documents the EDD is allowed to examine and what documents do not have to be produced. Those are the subjects of earlier articles.
The Inquiry Regarding Records will usually have the name and phone number of an appointment secretary whose job it is to arrange the initial taxpayer interview technically known as the "entrance interview." This type of interview may occur before you have to provide the EDD with any documents at all. Pay particular attention to the wording of the "information sheet" provided with the notice that is entitled Employment Tax Audit Process. The notice states:
Before reviewing our records, the auditor will conduct an entrance interview with you or your designated representative to explain the purpose of the audit and the audit process, gather general information about the operation and organization of your business and accounting records, and answer any of your questions.
The wording provided by the EDD seems to give you the option of being personally interviewed or having your representative stand in your place. The above wording seems pleasant enough as though the interview was no big deal. Thinking this was is a mistake! The EDD auditor is seeking transparency with regard to the way you classify workers. The EDD auditor's goal is to bring in money to the treasury. This is not just a get acquainted conference. Be on guard; protect yourself.
It is the consensus of most tax practitioners working in the field of tax audits that the taxpayer should be kept away from the tax man. Very often there is a risk that things can be said or disclosed today that you will regret tomorrow. Studies have disclosed that a taxpayer directly facing a tax auditor, eye-to-eye, psychologically adopts a parent-child fantasy where the government is regarded as the parent and the taxpayer becomes the child caught in the act of doing something he or she should not have done and saying things that point the finger to guilty conduct.
In my practice I have consistently requested that the initial meeting with the EDD be conducted between me and the auditor only. I also request that the audit interview be conducted in my office where the books and records are located. I have had consistent and outstanding cooperation from the EDD in this regard. Often I can not adequately or accurately answer the auditor's questions. I then request that the auditor put these unanswered questions in writing to be submitted to my client. I like the idea of written questions. When they are given to my client there is no error in transmitting the auditor's questions. This method also allows the taxpayer-employer to carefully consider answers to the EDD's questions to make those answers as accurate and clear as possible. It is rare that the EDD will still insist on an in-person interview as a result of this methodology.
©Robert Schriebman 2013.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, "IRS Tax Collection Procedures - A Manual for Practitioners" published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See "California Tax Collection Practice and Procedures" and "California Taxation Practice and Procedure", both published by Commerce Clearing House.