The California Employment Development Department (EDD) conducts payroll tax audits to verify businesses are in compliance with the state’s employment tax laws. These audits are designed to ensure employers are correctly reporting and remitting taxes related to wages, unemployment insurance, disability insurance, and other employment-related obligations. For businesses operating in California, understanding the EDD audit process is essential to maintaining compliance and avoiding costly penalties.

What Triggers an EDD Audit?

There are several common scenarios that may lead to an EDD audit. These include specific indicators of potential non-compliance and random selection as part of the EDD’s overall enforcement strategy:

• Unemployment Claims: One of the most frequent audit triggers occurs when a former worker files for unemployment benefits. If the EDD determines the individual was misclassified as an independent contractor rather than an employee, this can raise concerns and prompt an audit.
• Late Filings or Payments: Failure to file payroll tax returns or submit payments on time often raises red flags. Consistently late filings may suggest poor record-keeping or intentional non-compliance.
• Discrepancies in Records: If the information submitted to the EDD does not match up with records from other agencies (such as the IRS), or if inconsistencies are detected within a company’s own filings, it may trigger a closer look.
• Random Selection: The EDD also conducts random audits to ensure general compliance across all sectors. Even businesses with clean records may be selected for audit without any specific cause.

The EDD Audit Process

The EDD audit typically encompasses the following steps:​

1. Initial Contact: The EDD notifies the employer of an audit and requests specific documents.
2. Entrance Interview: An auditor meets with the employer to discuss the business structure, operations, and the scope of the audit. ​
3. Records Examination: The auditor reviews payroll records, tax filings, and other relevant documents to assess compliance.​
4. Worker Classification Review: A key focus is determining whether workers are correctly classified as employees or independent contractors.​
5. Exit Interview: The auditor presents preliminary findings and allows the employer to provide additional information or clarification.​
6. Final Determination: The EDD issues a Notice of Assessment detailing any taxes, penalties, and/or interest due.

Potential Penalties

Non-compliance identified during an audit can result in various penalties:​

• Late Payment Penalties: Ranging from 2% to 15% of the amount(s) due depending on the delay duration. ​
• Misclassification Penalties: Intentional misclassification can lead to fines up to 20% of wages paid and 100% of payroll taxes due.
• Additional Fines: Employers may face fines between $5,000 and $25,000 for fraudulent filings or repeated offenses.

Responding to an EDD Audit

If you receive notice of an audit, it is important to respond promptly and professionally. The following steps can help guide your response:

• Consult a Tax Professional: Engage a tax attorney or accountant who has experience with EDD audits to help navigate the process and protect your interests.
• Organize Documentation: Collect all required records, verify their accuracy, and prepare to present them in an organized manner.
• Cooperate with the Auditor: Maintain clear communication and respond to all information requests in a timely fashion.
• Review Findings Carefully: After receiving the final assessment, review it thoroughly. If you believe the findings are incorrect, you have the right to file an appeal.

Get Help from Experienced Professionals

Understanding the EDD audit process and being properly prepared can help mitigate potential risks and ensure compliance with California’s employment tax laws.

The experienced Tax Attorneys at RJS Law have years of combined experience in dealing with Employment Development Department Audits as well as audits originated by other state and federal agencies.  For a no-cost consultation, please contact RJS LAW on the web or by calling 619-595-1655.