One of the more stress-inducing aspects of an L&I Audit or ESD Audit is the list of records you’re asked to provide. The checklist of requested records is often viewed as asking for everything under the sun, and businesses are asked to provide the records to the agency in a couple weeks, or less. The truth about these record requests is that: a) while you will have to produce most of the documents, you won’t necessarily have to produce all; b) sample documents will suffice for some items on the list; and c) you don’t have to provide everything in the short time indicated by the auditor (you can ask for additional time).
Below is a list of the records that you usually need to produce, along with a brief explanation of the agency’s purpose in requesting the records.
- Pre-Audit Questionnaire. The Pre-Audit Questionnaire is as an overview/snapshot of your basic business operations. This needs to be completed in full.
- Employee Information Sheet. The Employee Information provides the auditor with an overview of your firm’s employees, including job titles and description of their duties.
- Employee Time Sheets. Employee time sheets provide the auditor with records that will verify whether you are properly tracking and reporting hours to L&I or ESD.
- Employee Earning Records or Payroll Summaries. These records are reviewed to ensure that company records of employee compensation match amounts that are being reported to state/federal agencies.
- Bank Statements. Bank Statements are scrutinized to identify payments to employees and independent contractors, and to generally see if bank statement records match what has been reported to L&I or ESD.
- Check Register or General Ledger. Like the bank statements, the Check Register (or General Ledger) is scrutinized to identify payments to employees and independent contractors, and to see if revenue and payroll expenses match what has been reported. In an independent contractor audit, this is likely the document most scrutinized for the purposes of identifying payments to independent contractors.
- Cash Payments Log/Records. If you keep a record of your cash payments, the auditor will review this record in order to identify payments to subcontractors/employees, and to see if expenses match what has been reported.
- Federal Tax Return. The Federal Tax Return and the other federal forms referenced below are used by the auditor to see what has been reported to federal agencies, and to cross-check against other records.
- 940 and 941 Form. Employers use Form 941 to report income taxes, Social Security tax, or Medicare tax withheld from employees’ paychecks. An auditor reviews this form to verify that they match state records.
- 1099 Forms. The auditor will want to verify that every service provider who received a 1099 was a legitimate subcontractor.
- W-2 Form. The W-2 Form reports an employee’s income from the prior year and how much tax the employer withheld. An auditor reviews this form to verify that federal reporting match state records.
- Independent Contractor/Subcontractor Information. The independent contractor/subcontractor information sheet is a spreadsheet used to collect details about independent contractors including: business name and trade name, street address, email address, UBI number, L&I Account number, whether sub had employees, compensation, etc. This information is used to determine if a subcontractor was a legitimate subcontractor, or if the sub was instead a misclassified employee.
- Independent Contractor Agreement. Contract terms are used to evaluate the relationship between your business and the independent contractor to determine if the independent contractor is a legitimate contractor, or if the contractor was instead a misclassified employee.
There are other documents that are on the list (e.g. corporate formation records, client invoices, customer invoices, etc.), but auditors don’t seem to insist on receiving these. Or in the case of client and customer invoices, which can be voluminous and difficult to compile, it’s often the case that producing a few sample documents will suffice. Then there are some documents requested that you might not have, and that you therefore would not be able to produce.
A question we receive a lot is whether you have to produce these documents. Businesses often think that the document requests are invasive of their private business affairs, and assume there’s no way they should be required to produce these records. In reality, the government has full authority to request and review these records, and you can’t resist producing them no matter how invasive you think they are.
In the end, the best approach is to have a strategy that satisfies your disclosure obligations and that that cuts down on the hassle and costs of submitting to the audit.