How far back can the IRS audit?
The IRS generally includes tax returns filed within the past three years in an audit. However, if during the audit process the IRS identifies a substantial error, it may audit additional prior years. It is rare for the IRS to go back more than six years in an audit.
The IRS statute of limitations for an audit is six years, though there are tax issues for which there is no statute of limitations. For instance, if you fail to file Form 3520, relating to foreign income or inheritances or gifts over $100,000, there is no time limit for an audit.
You should be aware of a couple of other exceptions, too. There is no IRS audit statute of limitations if you have never filed a tax return, and if you forget to sign your return, the IRS can consider it not filed. The same holds true if a fraudulent tax return was filed in the past.
What is an audit?
An IRS audit is an examination and review of an individual or organization’s accounts. The IRS wants to confirm that every taxpayer complies with all tax laws. One reason for a tax audit is to make sure that tax evasion is not taking place.
What triggers an audit?
Most audits are random. There are certain tax matters, though, that make an audit more likely and can cause IRS audit triggers.
Common IRS audit triggers include:
Failure to report all taxable income
The IRS receives copies of your W-2s and 1099s. If you fail to report a 1099 on your tax return, the IRS may request a review. If you notice any discrepancies on your W-2s or 1099s, or if you receive a 1099 that is not yours, report it to the issuer at once and ask them to send an amended copy to the IRS.
High income
High-income earners are far more likely to face an audit than lower-income earners. According to the IRS, taxpayers with incomes of $10 million or above have substantially higher audit rates.
The exam rate for those earning $10 million or more is 8.16 percent. For those earning between $1 million and $10 million, the percentage is 2.53. For incomes below that level, the audit rate is less than 1 percent.
Large charitable deductions
When you write a check for charity, it’s simple to prove the value of the amount donated. When you donate an item to charity, that’s a different story. The taxpayer must estimate the value of the item, and that’s what may bring about a tax audit.
When donating any item with a value of $500 or more, have a professional appraiser determine the fair market value.
Math errors
If a math error is found, your tax return could be audited. That is the case whether the math error is in your favor or that of the IRS.
Excessive deductions
The IRS knows the average deductions for particular items made by taxpayers in your income bracket. When you exceed these averages, you may invite IRS scrutiny. As long as your deductions are legitimate and well-documented, do not hesitate to take the deductions to which you are entitled.
Filing Schedule C
Self-employed taxpayers are more vulnerable to audits than salaried employees. That’s especially true if the business tends toward cash operation. The IRS knows that self-employed taxpayers have more opportunities to hide income and commit tax fraud than those working for third parties.
Home office deduction
The criteria for the home office deduction are quite strict. This deduction is available only to qualifying self-employed taxpayers and independent contractors. The home must be the principal place of business, and a portion of the home must be used exclusively for conducting business. Employees working remotely from home do not qualify for the home office deduction.
Business meals, travel, and entertainment deductions
This is a widely abused category, so the IRS checks it carefully. Be sure you have receipts as well as a documented purpose for each expense, along with a record of who else was in attendance. If your employer reimbursed you for these expenses, they are not deductible.
Learn more: How to Deduct Meals and Entertainment Expenses
Claiming a hobby as a business
The IRS differentiates whether an endeavor for which the taxpayer claims deductions is a legitimate business or a hobby. Criteria for a business include whether the activity is conducted in a manner pertaining to a business and whether you keep accurate records.
Also, there should be evidence that the time and money spent on the activity shows an intent to become profitable. A standard for profitability is known as the 3 of 5 test. If the business was profitable for three of the previous five years, it is likely legitimate. Claim a loss three times during that window and expect to hear from the IRS.
100 percent business use of a vehicle
It is rare for someone who uses a personal vehicle for their business to use that vehicle exclusively for business all of the time. That is especially true if the person only owns one vehicle.
As always, there are exceptions, but make sure you have strong documentation if you make this claim
Earned Income Tax Credit
Returns claiming the EITC are audited at a significantly higher rate. EITC payments are often made in error, and the IRS wants to examine EITC claims for fraud prevention.
What do I need to provide in an audit?
The IRS wants to see documentation supporting your claims. It may request that you provide certain records.
Such records might include:
- Bills
- Canceled checks
- Legal papers
- Loan agreements
- Receipts
Depending on the reason for the audit, the IRS may want to see medical and dental records, tickets for business use, logs or diaries, or other relevant documents.
How long does an IRS tax audit take?
Most IRS audits take less than two years. The actual length of the audit depends on various factors like the type of audit, the complexity of the issues related to your tax returns, and whether (and when) you provide all of the information requested by the IRS agent.
Of course, whether or not the taxpayer agrees or disagrees with the IRS findings plays a huge role in the audit resolution. If you, as a taxpayer, genuinely contest a determination the IRS agent makes based on your tax returns, it’s a good idea to seek advice about the relevant tax law from a tax attorney or other tax advisor who specializes in IRS audits and audit defense.
If you need help finding support, we’re happy to put you in touch with one of our trusted tax resolution partners.
What happens when you agree with the audit results?
Depending on the type of audit, if you agree with the findings, you will sign the examination report or a similar form. If you owe additional tax, the IRS provides several payment options. The IRS will let you know how you can pay.
What happens when you do not agree with the audit results?
If you disagree with the IRS tax audit findings, you have options. The first is to request a conference with an IRS manager.
You can pursue appeals mediation, also known as Alternative Dispute Resolution (ADR). With ADR, a trained mediator works with you and the IRS employee assigned to your case to come to an agreement. Mediation is recommended if you want to solve your dispute at the earliest stages, you aren’t disputing many issues, and you have information supporting your position. Mediation is not an opportunity to disclose new information or buy more time.
If sufficient time is left on the statute of limitations, you may file an appeal. According to the IRS, its Independent Office of Appeals is designed to resolve disputes without litigation. The process is meant to be fair and impartial to both you and the government.
It’s wise to speak with a tax professional who can negotiate with the IRS on your behalf.
What is a tax levy?
An audit can lead to a tax levy, in which the IRS may legally seize your property to pay off a debt. When a taxpayer owes money and does not respond to IRS notices CP501 or CP504—Notice of Demand for Payment and Final Notice of Intent to Levy, respectively—your assets may be seized to pay your tax debts.
Such assets include:
- Wages
- Bank accounts
- Real estate
- Retirement income
- Social Security
Avoid a tax levy by paying the amount due or making appeal or payment arrangements. Failure to make any sort of payment arrangement will lead to the filing of a federal tax lien on your property, which can lead to a levy.
How many times can you be audited by the IRS?
There is no limit on how many times the IRS may audit a taxpayer or audit tax returns.
However, the IRS cannot audit you for a particular tax year again, unless you or the Secretary of the Treasury request the new audit.
Is an IRS audit a criminal investigation?
An IRS audit is not a criminal investigation.
A criminal investigation may be initiated when an IRS agent detects possible fraud on an income tax return. These suspected cases are forwarded to special agents of the IRS Criminal Investigation Division to determine whether tax or financial fraud has taken place.
The level and depth of the suspected fraud generally determine whether the IRS conducts a criminal investigation.
How is an audit concluded?
An IRS audit concludes in one of three ways.
- If the questioned items are substantiated with good documentation, there is no change.
- The IRS may propose changes and the taxpayer understands and agrees with these changes.
- The IRS may propose changes and the taxpayer understands but disagrees with the changes.
Who can help you deal with an audit?
When facing a tax audit, you should enlist the help of an expert who can help you navigate the system. Seek out a tax professional such as an enrolled agent, CPA, or tax lawyer for tax advice.
If you’re worried about an audit, your books are the first thing you’ll want to put in order. At Bench, our Retro team specializes in helping small business owners who have fallen behind in their bookkeeping. Our expert bookkeepers work with you to get your accounts in order so you’re better equipped to resolve any tax problems.
Once your books are caught up, our tax partner 20/20 Resolution can step in, getting your back taxes filed, assessing your tax liability, and even representing you in front of the IRS.
How can you avoid an audit in the future?
No one wants to go through an audit twice, but there are steps you can take to avoid future audits. Staying on top of your books, tax records, and hiring an experienced tax advisor to prepare your taxes are some of the most important ways you can maintain confidence in your position with the IRS.
You’ll also want to make sure that you can back up your returns with proof, so keep all tax-related records and past tax returns for at least three years. Make sure all tax filings and tax forms are completed by the due date. That’s true even if you cannot pay the money owed or are owed a tax refund.
If another audit does occur, good tax preparation will make the experience go much more smoothly. You won’t feel afraid about an audit when you know all your tax claims are well-documented.
As a tax expert with a comprehensive understanding of IRS regulations and audit procedures, I can shed light on the concepts discussed in the provided article. My expertise in tax laws and audit processes allows me to provide valuable insights into the various aspects of IRS audits and related topics.
IRS Audit Timeframe and Statute of Limitations: The IRS generally includes tax returns filed within the past three years in an audit. However, if a substantial error is identified, the IRS may audit additional prior years, though it is rare for them to go back more than six years. The IRS statute of limitations for an audit is six years, with certain exceptions. For example, there is no time limit for an audit if Form 3520 related to foreign income or significant gifts is not filed.
Exceptions to IRS Audit Statute of Limitations: There are exceptions to the IRS audit statute of limitations. The time limit does not apply if a taxpayer has never filed a tax return. Additionally, if a fraudulent tax return was filed in the past, there is no statute of limitations. Failure to sign a return can also lead the IRS to consider it not filed.
What Triggers an IRS Audit: IRS audits are often random, but certain factors can trigger an audit, such as failure to report all taxable income, high income, large charitable deductions, math errors, excessive deductions, filing Schedule C (self-employment), home office deduction, business meals, travel, and entertainment deductions, claiming a hobby as a business, 100 percent business use of a vehicle, and claiming the Earned Income Tax Credit (EITC).
Documentation Required in an Audit: During an IRS audit, taxpayers are required to provide documentation supporting their claims. This may include bills, canceled checks, legal papers, loan agreements, receipts, and, depending on the audit's nature, medical and dental records, tickets for business use, logs or diaries, or other relevant documents.
Duration of IRS Tax Audits: Most IRS audits take less than two years, and the length depends on factors such as the type and complexity of the audit and the taxpayer's cooperation. The resolution of an audit can be influenced by the taxpayer's agreement or disagreement with the IRS findings.
Options After an IRS Audit: If a taxpayer agrees with the audit results, they sign the examination report and may be required to pay additional taxes. If disagreement arises, options include requesting a conference with an IRS manager, pursuing appeals mediation, and filing an appeal if sufficient time remains on the statute of limitations.
Tax Levy and Resolution: An audit can lead to a tax levy, where the IRS seizes assets to pay off a debt. Taxpayers can avoid a levy by paying the amount due, making appeal or payment arrangements, or responding to IRS notices. Failure to make arrangements may result in a federal tax lien on the property.
Frequency of Audits and Criminal Investigations: While there is no limit on how many times the IRS can audit a taxpayer, they cannot audit for a specific tax year again without a request. An IRS audit is not a criminal investigation, but suspected fraud cases may lead to criminal investigations by the IRS Criminal Investigation Division.
Audit Conclusion and Professional Assistance: An IRS audit concludes in one of three ways: no change, proposed changes accepted by the taxpayer, or proposed changes disagreed with by the taxpayer. Seeking assistance from tax professionals such as enrolled agents, CPAs, or tax lawyers is advisable when dealing with an audit.
Preventing Future Audits: To avoid future audits, staying organized with books and tax records, hiring an experienced tax advisor, and maintaining accurate documentation are crucial. Keeping records for at least three years, filing tax forms on time, and ensuring thorough tax preparation can contribute to a smoother audit experience.
