California businesses face higher taxes after state lost $55 billion in unemployment fraud

Federal investigators head to California

The U.S. Department of Labor sent a strike team to California on Feb. 18 to dig into fraud and bad payments in the state’s unemployment program.

Labor Secretary Lori Chavez-DeRemer pointed to rising error rates, slow payments, and shaky data in a letter to California’s Employment Development Department.

The team, made up of specialists from national and regional offices, comes after a state audit flagged EDD as high-risk for weak fraud prevention.

The pandemic opened the floodgates

When COVID hit in 2020, unemployment in California spiked and EDD couldn’t keep up. The state’s unemployment fund, already low before the pandemic, ran dry.

EDD estimated it paid out roughly $55 billion in overpayments, though state auditors said EDD couldn’t fully back up that number.

Those overpayments included outright fraud, clerical mistakes, missing paperwork, and payments to people who lost their eligibility.

The fraud portion alone sits at about $20 billion by state estimates, and outside analysts think it’s higher.

Criminals found an easy target

EDD waited months to beef up fraud detection, even after the federal government warned states twice in early 2020 to keep safeguards in place.

The agency dropped a key identity check, which led to more than $1 billion going out on claims with unverified identities.

Criminals used stolen Social Security numbers to file fake claims. EDD sent out roughly 9 million benefit cards despite only about 3 million people actually being unemployed.

About $810 million went to people in prison because EDD never set up a system to cross-check claims against jail records.

Fraud hit record levels across the country

The U.S. Government Accountability Office estimated that between $100 billion and $135 billion in unemployment benefits nationwide went to fraud during the pandemic.

That’s roughly 11% to 15% of the about $900 billion in total benefits paid out. California had about 12% of the nation’s population but pulled in about 21% of federal unemployment funds.

As of May 2023, states across the country had flagged about $55.8 billion in overpayments but clawed back only about $6.8 billion.

California still owes $21 billion to Washington

On top of the fraud mess, California borrowed from the federal government starting in June 2020 to keep paying regular unemployment benefits after its fund went empty.

That loan now sits at roughly $21 billion, according to the EDD’s January 2026 forecast, and could climb to about $21.3 billion by the end of 2027.

California is the only state that hasn’t paid back its pandemic-era federal unemployment loan. Every other state that borrowed, including New York in mid-2025, has settled up.

An outdated tax cap set the stage

California charges its unemployment insurance tax on just the first $7,000 of each worker’s wages, a cap that hasn’t moved since the 1980s.

Wages went up, benefits went up, but the tax revenue stayed flat.

EDD has said benefit payments have topped state payroll tax collections by more than $1 billion a year in recent years.

Even before COVID, the fund only managed two years without borrowing from the federal government in the prior decade.

The system was already fragile when the pandemic hit.

Employers pay the rising cost

Because California hasn’t repaid the federal loan, employers face automatic hikes in the Federal Unemployment Tax Act rate every year.

For 2025, California employers pay about $126 per worker in FUTA taxes, roughly three times more than employers in any other state. In states that paid off their debts, employers pay the standard $42 per worker.

The surcharge grows by about $21 per worker each year the debt stays unpaid and could hit $420 per worker as early as 2027.

Interest payments eat into the state budget

California pays the interest on the federal loan out of its general fund, not from employer taxes. For the 2025-2026 fiscal year, the state set aside about $643 million just for interest.

That number could soon hit $1 billion a year as the debt keeps growing. Every dollar going to interest is a dollar not going to housing, schools, or health care.

The interest bill alone has become one of the larger line items in the state budget.

Small businesses feel it the most

The National Federation of Independent Business has warned that climbing unemployment taxes hurt hiring, wages, and growth.

On top of the federal surcharge, California employers also pay state unemployment taxes averaging about 3.5%, with rates expected to rise past 5% in coming years.

Combined state and federal unemployment payroll taxes could eventually hit roughly 11% on the first $7,000 of wages per worker.

Every employer pays the surcharge, even those who have never laid off a single worker.

EDD tries to claw money back

EDD says it has recovered more than $5.9 billion in unemployment funds since the pandemic.

Nearly 1,800 fraud cases have been opened, and hundreds of suspects have been arrested. In one case, a former EDD employee got 66 months in prison in March 2025 for filing about $858,000 in fake claims.

The state has asked the federal government for waivers to reduce debt tied to non-fraud overpayments. EDD also started a $1.2 billion project to overhaul its benefits systems.

The problems keep showing up

The state auditor found that EDD’s error rate stayed above the federal government’s 10% threshold in both 2023 and 2024.

Bad payments totaled about $1.5 billion over those two years, and the estimated fraud rate in 2024 alone topped where it was in 2019, before the pandemic even started.

The Department of Labor’s inspector general also warned that nearly $1 billion in unemployment funds sit at risk on unclaimed prepaid cards and in unclaimed-property accounts nationwide.

EDD remains on the state’s high-risk list, where it’s been since 2023.

Repayment could take years

The strike team investigation has no public timeline or specific enforcement actions yet. If investigators find big enough failures, they could send cases to the Department of Justice.

California’s unemployment rate, at about 5.4% to 5.5%, remains among the highest in the country, which keeps pressure on the system.

The state’s Legislative Analyst’s Office has said the federal loan may not be repaid through higher business taxes until 2029 or 2030 at the earliest.

Critics argue California should have used its budget surplus or federal COVID aid to pay down the debt years ago instead of passing the cost to employers.

This article was created with AI assistance and human editing.

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