ASK THE CALIFORNIA EMPLOYMENT TAX AND PAYROLL TAX ATTORNEY – FREQUENTLY ASKED QUESTIONS – ALL ABOUT EDD AUDITS – PART 2
By Robert S. Schriebman
During the COVID-19 pandemic the EDD conducted very few if any audits. Auditors were reassigned primarily to handle the unprecedented number of unemployment benefit claims. The auditors worked from remote locations. In early 2021 the audit program resumed. I have received many calls from employers who find themselves under examination. 2020 was a tough year for them. They have many common questions and concerns. In this series of FAQs, I will attempt to provide answers to their questions and address their concerns. If you find yourself in this situation, you are welcome to call my office and speak with an experienced professional.
The following FAQs are real. They are not academic. They have been asked by callers and clients over the years. I have learned that there is no such thing as a stupid question. I pass these onto you.
Do I have exposure to an EDD audit if I issue workers 1099s?
This question may get you caught between the proverbial rock and a hard place. By law you must issue a 1099 for services totaling $600 or more per calendar year. There are severe EDD penalties for failing to issue 1099s, just as there are for failure to issue W2s. 1099s and W2s must be submitted to the IRS annually. The IRS shares information with the State of California and the EDD in particular. The IRS has studies and tests for excessive amounts of 1099s being issued by small and medium-sized businesses. If the IRS finds that a disproportionate amount of 1099s has been issued, it may notify the EDD and suggest the EDD conduct an examination. This is another way that an employer gets selected for an EDD audit. It is always better to issue as many 1099s as required than it is not to issue any at all. Sometimes, the system appears to be rigged against people doing the right thing.
If I do not file quarterly EDD payroll tax returns, do I have exposure to being audited?
In 2020 and continuing into 2021, I have seen a large number of “mini assessments” being issued by the EDD on a quarter-by-quarter basis. These assessments average $3000 – $5000 per quarter. The reasons for these assessments are many. The most popular reasons are UI claims made by workers who were treated as independent contractors. During the pandemic independent contractors were given UI benefits. These benefits generated mini assessments and audits too. Another reason for these mini assessments was due to the employer’s failure to file quarterly payroll returns in late 2019 and throughout 2020. These assessments were issued primarily to businesses having EDD account numbers. Some assessments were made to employers who never registered with the EDD to obtain an account number. The EDD assigns a case number to the assessment that is different than an account number. I have seen situations where the EDD will send an audit notification to the employer who never registered and at that time will assign the audit-target a new account number.
Failure to file quarterly payroll returns with the EDD may expose the employer to an audit covering a period of 8 years instead of the traditional 3 year or 12 quarter examination period. This is especially so in the construction industry, a favorite target of the EDD.
Should I complete the Pre-Audit Questionnaire and send it to the EDD within the 14-day stated deadline?
The 14-day deadline set forth in the initial audit package is not chiseled in stone. Under the Employers’ Bill of Rights, (EDD Publication DE 195) you have the right to meet and confer with a professional advisor before you respond to the EDD. The EDD is not going to come to your home in the middle of the night and haul you away if you fail to meet the deadline. You may take as long as you please to consider hiring professional representation. There are questions in the Pre-Audit Questionnaire that if not answered properly could hurt you in your upcoming audit. This is why I strongly recommend that you meet with a professional advisor to discuss the questionnaire and your responses. It is better to have at least a consultation than to go it alone.
If you plan on consulting a professional advisor, out of basic courtesy I recommend you contact the person at the EDD whose name is on the audit package, and let them know you are seeking professional advice. If that auditor, in any way, discourages you from doing so, that’s a good sign you need professional representation!
What is the Employers’ Bill of Rights?
EDD Publication DE 195 is a short two-page publication that discusses your rights during both the audit and collection processes. While there is not much information about your rights during an audit, there is some very important language stating that you have a right to an impartial audit and a full explanation of the audit findings. You also have the right to have someone, such as an attorney, enrolled agent, or an accountant, present during the audit to represent you in your absence. You have a right to appeal the audit findings.
I have always found it strange that the EDD never sends this publication along with the initial audit package. Most people do not know that they have a right to seek professional advice. Another interesting point in this regard is that your representative does not have to be a professionally licensed tax practitioner. Anyone is allowed to represent you during the audit process.
If I do not respond to the audit notice, what can I expect?
This is never a good idea and never the right path to take when you are notified of an audit. This applies to an audit by the IRS, FTB, and EDD. You cannot avoid an audit by burying your head like an ostrich. The worst thing you can do in an EDD audit is to conduct yourself in such a way where the auditor’s notes reflect that you have been an uncooperative taxpayer. No judge will give you a break if the auditor’s notes reflect this.
The EDD auditor will not go away because he/she has not heard from you. You open quite a can of worms. Failure to cooperate in the audit process will most likely lead to the EDD issuing a Notice of Assessment based on an estimation. Estimated assessments cannot be settled and must be brought before a judge who will not be happy with your conduct and will order you to return to the audit table and conduct yourself in good faith.
There is a pattern with this type of conduct. The taxpayer-employer not only refuses to cooperate during the examination process, but usually also fails to timely file a petition with the CUIAB challenging the estimated assessment. As a result, the estimated proposed assessment becomes final and is assigned to a collector. The collector will file a Notice of State Tax Lien against the employer and pursue enforced collection action such as continuous bank account levies.
Robert Schriebman has a successful practice in the Rolling Hills Estates area of Los Angeles County serving clients throughout California and the United States. He has successfully dedicated more than 50 years to helping individual taxpayers, business owners, CPAs, Enrolled Agents, and tax attorneys navigate the complicated tax systems of the federal and state governments. Mr. Schriebman is in private practice. He is not affiliated in any way with the EDD and he is not employed by the EDD or any other agency of the State of California.
Robert Schriebman has written 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.
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.
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.
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