Tax fraud is a criminal offense

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An audit by EDD can result in criminal charges. One of the prime reasons for EDD audits in 2021 is misclassified workers. Since AB_5 passed the confusion around which workers can still be paid as 1099s and which are required to be w-2s has many business owners jumping to put all workers on the payroll. Correctly classifying your workers is one of the biggest responsibilities that employers are faced with. Not only does it determine the benefits and compensation received by workers, but it can trigger an audit by EDD, a referral to IRS and the possibility of insurance fraud charges for failure to provide workers compensation insurance.

Can a payroll tax discrepancy cause an EDD audit?

The short answer is yes. Any financial irregularity can flag your account for an audit. If your business is paying workers that are not reported as a 1099 or W2, for example they’re paid in cash and you are not maintaining record of their payroll and payments, EDD may assess a fraud penalty and open a criminal investigation. Additionally, if your 1099 contractors are misclassified and should be classified as W2 employees, it likely means you also aren’t paying for workers’ compensation insurance, which could land you in trouble for insurance fraud.

What is more common are investigations of construction contractors who hire unlicensed workers. These investigations involve the Contractors State License Board (CSLB). A case can start with either CSLB or EDD and the two typically join forces and work together. If CSLB or EDD find misclassified and unlicensed workers, the cases will then be referred to the District Attorney’s Office in your city for potential criminal prosecution. These cases typically include workers’ compensation insurance fraud because your company did not have workers’ compensation insurance to cover these workers.

Filing in correct returns can be catastrophic for a busienss not only because of the refiling, work and stress of an audit but also because of the cost of fines and fees to lawyers. The best way to avoid audits is to file correctly, classify your workers correctly and seek the advice of professionals as you navigate the tempestuous waters of tax compliance.

Need a refresher on the 1099 vs w-2 rules:

Widespread audits of SBA PPP Loan recipients.

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Across news media outlets reports of the increase in PPP audits have grown steadily since Treasury Secretary Steve Mnuchin announced that all Paycheck Protection Program loans above $2 million will be audited.

Public companies with “substantial market value” and the ability to raise money through capital markets were not the intended recipients of the Small Business Payroll Protection funds.  Those funds were meant to help small businesses, as the name of the administering agency (the Small Business Administration SBA) would suggest. 

Forgiveness for loans under $150K is automatic and requires only that the recipient keep records for 3 years should an audit occur. While the recipient does still have to file, no documentation proving the correct usage of the funds is necessary to be granted forgiveness on these smaller loans. AS business owners may remember, criteria for forgiveness shifted from the original statement that: “if the recipient of the funds uses 75% of those funds to pay payroll costs and the remaining 25% for operating expenses and used all of the funds within 8 weeks” the PPP loans would be forgiven. That bar shifted in percentages and length of time allotted causing many business owners to wonder how and when which criteria would be applied when it came time to file for forgiveness. The goal, in the midst of the massive unemployment wave, is to keep employees on the payroll.

“Anybody that took the money that shouldn’t have taken the money, one, it won’t be forgiven and two, they may be subject to criminal liability, which is a big deal,” Mnuchin said in an interview on Fox Business. “I encourage everybody to look at this and pay back these loans now so we can recycle the money if you made a mistake.”

While the smallest loans are essentially auto-forgiven, businesses between $150k – $2m amount mentioned by Mnuchin should take heed. Impeccable financial records will be necessary to ensure loan forgiveness should you be aduited.  Business owners should put SBA PPP funds into a separate account, pay ONLY payroll costs with 60% – 75% of the funds and use a spreadsheet or other tool to track where the money goes. 

Regardless of need, audits will come and it’s always best to have finances in order, reports at the ready and a clear process for compliance in place.