In the face of a perceived increase in the number of independent contractors, the California Employment Development Department (EDD) has begun a campaign of stricter enforcement of employment tax laws. With EDD conducting more audits of California business' employment records, business owners and their bookkeepers should be prepared for the possibility of an audit.
If EDD should initiate an audit of your company here are 7 steps you can take as you navigate the process.
Understand the Type of Audit
There are two types of EDD audits – verification and request. Verification audits are initiated randomly, not because of any perceived wrongdoing within your business. Request audits, however, are initiated because the EDD has reason to believe there may be inconsistencies in your records. Request audits should trigger a call to your CPA and Tax Attorney as they indicate that EDD has reason to believe you are violating the law.A request audit is more serious simply because the EDD is already suspicious, but both types of audits are conducted in the same way.
Contractors or Employees?
Enlist Legal Aid
If you receive a notice of audit from EDD, reach out to a trusted legal representative, a tax attorney, immediately. Your business will receive a package with an audit notice, questionnaire and records request. Bring the package to your tax attorney and sign the EDD Power of Attorney form which allows EDD to communicate directly with your attorney to resolve the discrepancy.
Review Your Employment Contracts
The goal of EDD audits is to ensure that you are properly paying employment taxes and fairly compensating employees. One of the key concerns is whether or not workers are independent contractors, which should be clearly spelled out in your employment contracts. Take some time to review your employment contracts before the EDD does, to look for potential red flags and make updates where necessary. For instance, if you require someone to work a set schedule or attend a training, you probably cannot classify them as a contractor. If you are having trouble determining how to classify your workers, reach out to your tax attorney for expert advice. They will be able to help you define worker classification from a legal standpoint.
Gather Supporting Documentation
California has strict rules about who you can classify as an independent contractor. One way to make the case that a worker is a contractor rather than an employee is by proving they run their own legitimate business. Gather up as much documentation as you can in advance of an EDD audit, including: official invoices, company-stamped letterhead, business cards, or anything else from a contractor that verifies their independence.
File Your Taxes on Time
An easy way to avoid an unnecessary EDD audit is to file your quarterly taxes on time. While timely filing in no way exempts you from an EDD audit, it is good business practice and raises fewer red flags.Filing taxes, keeping clean and accurate orderly records and storing your documents in a n easy-to-access location is both good for business and can ease the process of an audit, merger, sale or other business needs.
Update Your Employment Practices
Staying on top of employment laws and adjusting your record keeping, contracts and hiring practices is the best way to avoid an EDD audit. If your business is correctly classifying contractors and employees, an audit from EDD is a time consuming but not business threatening event.
Contact Milikowsky Tax Law for EDD Audit Support
Your focus is the running of your business. We are experts in tax law and can navigate the process of your EDD audit with you.The team at Milikowsky Tax Law is here to help you perfect your employment practices and navigate your next EDD audit. As former business owners ourselves, we understand the challenges small business owners face and we are committed to defending California business owners in tax law matters. When you have questions and concerns, we have answers. Contact our tax attorneys before, during, or after an audit to get trusted legal counsel.