ASK THE CALIFORNIA EMPLOYMENT TAX AND PAYROLL TAX ATTORNEY – THE NEW VERSION OF THE EDD’S ENTRANCE INTERVIEW FORM ASKS DISTURBING QUESTIONS – PART 1
By Robert S. Schriebman
This is Part 1 of a 2-Part series.
A new client presented me with the EDD’s latest version of its Entrance Interview Questionnaire. The auditor gave the client a short 7-day window to respond. In reviewing the Questionnaire, I found several disturbing and potentially dangerous probing questions that I had not previously seen in older versions.
In this series of articles, I will review the new Questionnaire as well as several areas crossing the line between what is within the jurisdiction of the EDD and those that should belong to the FTB. Prior to doing so however, I would like to offer my view on a taxpayer’s duty and responsibility to answer whatever questions are presented by the EDD in the audit process.
To Answer or Not to Answer – That is the Question!
There is always a tension that arises when the EDD requests information either in the form of an email, questionnaire or worker interview correspondence such as postcards. Clients ask if they or their workers are legally required to respond. The answer is not always clear. One thing that is clear, however, concerns the short time deadlines EDD auditors put on employers and to demand a response within a matter of days. I always get the image in my mind of the high pressure used car salesperson. One always have the right to consult with a knowledgeable tax professional before meeting any EDD imposed deadline. This is straight out of the EDD’s publication Employers’ Bill of Rights.
There is safety in not responding but there is also a corresponding risk that failure to respond may yield dire consequences from the EDD. Looking at the world through an auditor’s lens, the employer-taxpayer is legally bound to respond because, according to the EDD, they have the right to examine books and records and ask their questions. From my point of view, however, the employer-taxpayer is not legally obligated to answer any EDD probe and one is not legally obligated to respond to the Entrance Interview Questionnaire. You are also not legally required to respond to the initial Pre-Audit Questionnaire that accompanies every EDD audit notice. The EDD cannot force you to answer any of their questions, whether in the form of an email, or a formally prepared Questionnaire. The EDD does have the right to compel the production of documents by use of a subpoena. Having said this, the EDD cannot enforce the subpoena if you refuse to respond other than bringing the matter before a Superior Court judge, which I have never seen done in all my years of practice.
The EDD does have another weapon in its arsenal to be used against those who are not cooperative. This is known as an estimated assessment which is usually on the high side. An estimated assessment cannot be settled and forces the employer to return to the audit process. However, a lot of water may have gone under the bridge and what may have been a priority to the auditor initially may have been forgotten, or the auditor has other priorities.
Looking at the New EDD Entrance Interview Questionnaire
I am going to skip the initial mundane questions such as the business history, operating hours and acknowledged employees. Let’s look at the questions that really bother me.
Corporate Officer/Partners/Managing Members
The following inquiries are potentially dangerous:
- Who directs the daily activities?
- Who hires and fires workers?
- Who signs checks?
- Who determines which bills would be paid?
These four questions may seem harmless on their face, but there is a deeper meaning here. Those who operate the day-to-day fiscal affairs of a corporation or an LLC, are potentially personally liable for unpaid EDD payroll taxes at the entity level. Indeed, CUIC §1735 targets officers and key employees for every dollar owed by the entity not paid. Answering the above questions could put you potentially at risk for this exposure.
Questions Directed at S Corporations
The Questionnaire asks the following:
Did the employer consult with their CPA or another tax professional in regard to how much wages to report as reasonable compensation for the corporate officer?
- If yes, with whom and when was this information received? Please provide a copy of the written advice.
- If no, please explain what factors were considered by the employer to determine if they earned a reasonable compensation?
I have found these questions to be complex and disturbing. First of all, consultations between a CPA, attorney, and clients concerning tax matters are, for the most part, privileged. The EDD has no right to ask for this confidential information. Secondly, requesting a copy of written advice including an opinion letter involves protected work-product that the EDD has no right to request.
Factors used in determining reasonable compensation are very complicated and involve mostly IRS guidelines and US Tax Court cases such as Fleischer, Glass Blocks, Scott Singer Installations, Inc. and Watson.
EDD auditors, generally speaking, are ignorant of the factors that go into determining reasonable compensation. They usually take the position that every dollar paid directly or indirectly to officers and shareholders is subject to EDD payroll taxes – that is just plain wrong!
In Part 2, I will complete my discussion of the disturbing questions found in the new Entrance Interview Questionnaire. This will involve questions concerning worker status generally, and officer compensation for corporations and LLCs.
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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