EDD Pre-Audit Questionnaire (DE 996Q): What California Employers Need to Know Before Responding

By Marc Boulanger, CPA

If you just received an EDD Pre-Audit Questionnaire, DE 996Q, your first question may be very simple: Why is the EDD auditing my business?

The questionnaire may look like an administrative form asking about your business, records, contact information, and where an audit will take place. But it is part of California's employment tax audit process, and the information provided at the beginning of an audit can help establish the factual framework for what follows.

This is particularly important for businesses that use independent contractors, issue Forms 1099, pay some individuals both through payroll and outside payroll, or have workers whose classification may not be obvious.

What Is the EDD Pre-Audit Questionnaire?

The DE 996Q is one of the documents used by the California Employment Development Department at the beginning of an employment tax audit. According to the EDD's Tax Audit Guidelines, the questionnaire asks the employer to identify when and where records will be available, who should be contacted for the audit appointment, the contact person's information, and additional information concerning the business.

The accompanying DE 996 identifies the purpose of the audit and the period being examined.

Why Is the EDD Auditing My Business?

Sometimes there is an obvious payroll reporting issue. Sometimes worker classification is involved. And sometimes the chain of events begins with something that does not initially look like a payroll tax matter at all.

One pattern I see in EDD audit representation begins when a person who was treated as a 1099 independent contractor files for unemployment benefits.

The work ends. The former contractor files for unemployment and identifies the business as a company for which he or she performed services. That can put a worker-classification question directly in front of the EDD:

What I See in Actual EDD Audits

An EDD auditor recently explained to me that the Department may have roughly seven days to make the initial unemployment eligibility determination. When the claimant was previously treated as a 1099 contractor, that can force an early classification decision that later becomes highly relevant to an employment tax audit.

That seven-day timeframe is an observation communicated to me by an EDD auditor in a current matter, rather than a published deadline I am relying upon here. The larger point is important: an unemployment claim can put worker classification before the Department very quickly.

And once one worker's classification becomes an issue, the natural audit question becomes:

Were there other workers who were paid the same way?

How One Worker Can Lead to a Broader EDD Examination

Worker classification is specifically within the scope of an EDD employment tax audit. The auditor may examine individuals paid for services and determine whether they were properly classified as employees or independent contractors. Questionable payments for personal services and the actual working relationships can also be examined.

Therefore, an issue involving one claimant may expose a broader population of workers and payments to examination.

If the general ledger contains substantial contract labor, the company issued numerous Forms 1099-NEC, or multiple people performed similar services outside payroll, those relationships may become important during the audit.

What Does an EDD Employment Tax Auditor Examine?

EDD states that employment tax audits generally cover a three-year statutory period consisting of the 12 most recently completed calendar quarters. The examination generally begins with a test year, usually the most recently completed calendar year, although the scope can be expanded.

Depending on the audit, records and issues may include:

• Forms W-2
• Forms 1099-NEC and other information returns
• Payroll registers and payroll reports
• DE 9 and DE 9C filings
• General ledger accounts
• Check registers and disbursement records
• Contract labor accounts
• Independent contractor agreements
• Invoices and billings
• Payments for personal services
• The services actually performed by individual workers
• The relationship between the worker and the business

Before You Return the DE 996Q

Receiving an audit questionnaire does not mean that the EDD has already determined that your business owes additional payroll taxes. It does mean that this is a good time to understand your records and identify issues that could become important during the examination.

1. Read the DE 996 carefully.

Identify the stated purpose of the examination and the audit period. Don't assume every EDD audit has exactly the same scope.

2. Identify everyone who was paid for services.

Look beyond your payroll register. Review Forms 1099, contract labor accounts, outside services, commissions, checks, and other payments to individuals who performed services.

3. Understand what your 1099 contractors actually did.

A Form 1099 does not determine worker classification. The actual services, relationship, applicable classification test, and any statutory exception matter.

4. Look carefully at workers with more than one role.

If someone received both a W-2 and a 1099 from the business, understand why. What services were performed as an employee? What services generated the nonemployee payments? Were they genuinely different roles?

5. Review the ABC test and determine whether an exception applies.

Why Part B Can Become a Major EDD Audit Issue

Part B asks whether the worker performs work outside the usual course of the hiring entity's business.

This is sometimes where a contractor relationship becomes difficult. A worker can have a separate business, submit invoices, provide their own tools, and receive a Form 1099, yet the nature of the services still has to be considered under Part B when the ABC test applies.

Conversely, not every contractor automatically fails Part B. The analysis depends upon what the hiring business actually does and what services the worker performs.

Learn more in our EDD Worker Classification Audit Guide.

What If Someone Received Both a W-2 and a 1099?

A person may perform one set of services as an employee and another set of services under a separate arrangement. But simply issuing two different tax forms does not establish that the treatment was correct.

The services and relationships should be analyzed separately under the classification rules applicable to each. This can be particularly important in industries such as real estate, where employees, licensed professionals, maintenance workers, and outside service providers may perform very different functions for the same business.

What Not to Do After Receiving an EDD Audit Questionnaire

• Do not ignore the questionnaire or audit correspondence.
• Do not assume that issuing a 1099 proves independent contractor status.
• Do not guess when you do not understand what a question is asking.
• Do not provide inaccurate information about how your business operates.
• Do not assume every contractor relationship has the same facts.
• Do not wait until the end of the audit to begin understanding potential classification issues.

The objective should be straightforward: cooperate with the audit while making sure the EDD receives accurate information and properly understands the facts.

Can a CPA Represent Me in an EDD Audit?

A business can designate a representative for an EDD employment tax audit. For businesses facing payroll, accounting, and worker-classification issues, CPA representation can allow those issues to be reviewed together with the underlying books and records.

At Boulanger CPA and Consulting PC, EDD audit representation can include reviewing the audit notice and questionnaire, analyzing the records being requested, identifying worker-classification issues, preparing for the entrance interview, communicating with the auditor, reviewing audit calculations, and responding to disputed findings.

EDD Pre-Audit Questionnaire FAQs

What is an EDD DE 996Q?

The DE 996Q is the EDD Pre-Audit Questionnaire used at the beginning of an employment tax audit. It asks about record availability, the audit contact, contact information, and other information concerning the business.

How long do I have to return the EDD Pre-Audit Questionnaire?

The EDD's Tax Audit Guidelines state that the DE 996Q should be returned within 14 calendar days. Review your actual correspondence for the deadline applicable to your audit.

Can an unemployment claim lead to an EDD audit?

It can. If a person treated as an independent contractor files for unemployment benefits, the person's employment status can become an issue. Potential worker misclassification can also raise employment tax compliance questions concerning the business.

Does a Form 1099 prove someone is an independent contractor?

No. Worker classification depends upon the applicable California classification standard and the facts of the working relationship. Issuing a Form 1099 does not by itself establish independent contractor status.

What happens after I return the DE 996Q?

The audit generally proceeds to an appointment and entrance interview, followed by examination of the relevant business and payroll records. The exact scope depends upon the audit.