How Far Back Can IRS Audit Businesses? What You Need To Know
- Maryam Ajorloo, CPA
- 5 days ago
- 7 min read
Author: Maryam Ajorloo, CPA
Editor: Behdad Karimi, CPA
An Internal Revenue Service (IRS) audit is basically a review of your financial records to make sure everything on your tax return adds up correctly. The IRS checks whether you’ve reported all your income and only claimed deductions and credits you’re actually eligible for. It’s their way of ensuring everyone follows the tax rules fairly and accurately. For business owners, an IRS audit plays an important role in maintaining transparency and accountability. While the word “audit” can sound intimidating, its purpose is to ensure that businesses are accurately reporting their income, expenses, and deductions in line with tax laws. Regular audits—whether initiated by the IRS or conducted internally—help business owners identify bookkeeping errors, strengthen their financial recordkeeping, and avoid potential penalties. In the long run, being audit-ready builds trust with stakeholders, keeps finances organized, and supports the overall health and credibility of the business.
Types Of Audit
The IRS carries out audits in three main formats, each differing in complexity and where they take place:
1) Correspondence audit
This is the most common and least disruptive type of audit. The IRS simply sends you a letter asking for extra information or documents—like receipts for charitable donations—which you can provide by mail or fax.
2) Office audit
For slightly more complex matters, the IRS may ask you to visit a local office for an in-person meeting with a Tax Compliance Officer. During this meeting, they’ll review specific parts of your tax return to clarify or verify details.
3) Field audit
This is the most detailed and comprehensive type of audit. An IRS Revenue Agent visits your home, business, or accountant’s office to examine your financial records. Field audits are usually reserved for more complicated business returns or cases where the IRS spots significant inconsistencies.
Reasons For Audit Selection
Tax returns are chosen for audits in several ways — sometimes through random selection as part of the IRS’s National Research Program, other times through computer screening that uses a statistical formula (known as the DIF score) to spot inconsistencies. A return might also be flagged if it’s connected to another taxpayer who’s being audited. In many cases, certain “red flags” increase the likelihood of an audit, such as:
1) Unreported or mismatched income
If the income you report doesn’t match what your employers or financial institutions have submitted to the IRS (like W-2s or 1099s), it can trigger an audit.
2) Excessive deductions or credits
Claiming deductions or credits that are unusually high compared to your income, or higher than what’s typical for similar taxpayers, can raise red flags.
3) Self-employed or cash-heavy businesses
Returns from self-employed individuals or businesses that handle a lot of cash are often scrutinized more closely, since there’s a greater risk of unreported income or inflated expenses.
4) Business losses over multiple years
Reporting consistent losses, especially for sole proprietorships, may prompt the IRS to check if the business is genuinely operating for profit rather than as a hobby.
5) Using round numbers for expenses
Deducting perfectly rounded figures can signal estimates rather than actual records, which may attract attention during an audit.
How Are You Notified?
If your account is chosen for an audit, the IRS will notify you through the mail. They will never contact you by phone to start an audit.
What Documents Will You Need To Provide?
The IRS will send you a written notice specifying exactly which records they want to review. This can include a variety of documents, depending on the items being audited.
Some records can be submitted electronically, either instead of or alongside physical copies. It’s best to check with your auditor to see what formats are acceptable.
By law, you’re required to keep all records used to prepare your tax return for at least three years from the date you filed it. Keeping organized records can make the audit process much smoother.
Examples of records IRS might request
Every audit zeroes in on specific parts of your tax return, and the records requested will usually fall into the following categories. Keep in mind that no single document tells the full story on its own, you’ll need to provide context for anything you submit. Also, always send copies, not original documents.
Receipts: Present these by date with notes on what they were for and how the receipt relates to your business.
Bills: Include the name of the person or organization receiving payment, the type of service and the dates you paid them.
Canceled cheques
Legal papers: Include a description of what the case was about, when it happened and how it relates to your business, credit or deduction.
Loan agreements: Include a copy of the original loan.
Travel Logs: These might show the dates and locations of your travel as well as the business purpose and mileage.
Tickets: Label travel tickets with the business purpose for the trip and group them with other receipts from the same trip.
Medical/dental records
Theft or loss documents
Employment documents: These might include uniform policies or dress codes, continued education requirements, W-2 reimbursement statements or policies.
Schedule K-1: These are used to report each shareholder’s share of income, losses, deductions and credits when an S corporation files its annual tax return.
How Far Back Can The IRS Go To Audit Your Return
Typically, the IRS can audit tax returns filed within the past three years. If a significant error is found, additional years may be included, though audits rarely go back more than six years.
The IRS aims to review returns soon after they are filed, so most audits focus on returns from the last two years.
If an audit isn’t resolved quickly, the IRS may ask you to agree to extend the statute of limitations. This is the legal time frame during which the IRS can review your return, assess additional tax, or allow you to claim a refund. Generally, it’s three years from the later of when the return was filed or due. Extending the statute gives you more time to provide supporting documentation, request an appeal if you disagree with the audit findings, claim a refund or credit, and allows the IRS time to complete the audit and process the results.
What If I need More Time To Respond?
Mail audits
You can fax your written request to the number provided in the IRS letter. If fax isn’t possible, you can mail your request to the address listed. Usually, the IRS can grant a one-time, automatic 30-day extension. They will let you know if your request can’t be approved. However, if you received a Notice of Deficiency by certified mail, additional time to submit documentation isn’t allowed. You can still work with the IRS to resolve the issue, but the 90-day period to petition the U.S. Tax Court cannot be extended.
In-person audits
Contact the auditor assigned to your case to request extra time. If needed, you can escalate your request to the auditor’s manager.
How Long Does An Audit Take?
The duration of an audit can vary widely. It depends on the type of audit, how complex the issues are, how quickly the requested information is provided, the availability of both you and the IRS for meetings, and whether you agree or disagree with the findings.
How Does The IRS Conclude An Audit?
An audit can end in one of three ways:
No change: This happens when you’ve provided sufficient documentation for all items under review, and the IRS makes no changes to your return.
Agreed: This occurs when the IRS proposes changes, and you review them and agree with the adjustments.
Disagreed: This is when the IRS proposes changes, but you disagree. In this case, you can work through the appeals process or other options to resolve the disagreement.
How ReInvestWealth Helps Business Owners Stay Organized and IRS-Ready
Using accounting software like ReInvestWealth is a smart way for business owners to stay audit-ready and compliant with tax regulations. ReInvestWealth automates record keeping, organizes income and expenses, manages receipts, and ensures all transactions are accurately documented, helping reduce errors that could trigger an audit. It also makes it simple to generate reports with receipt links, and provide supporting documentation whenever the IRS requests it, saving both time and stress. By keeping your financial records clear, complete, and up-to-date, ReInvestWealth not only helps you meet regulatory requirements but also gives you a real-time view of your business’s financial health, making audits far less intimidating.
Conclusion
By staying proactive and compliant, you can do your best to avoid an IRS audit. However, if you end up going through an audit, you should still be prepared. Staying safe by storing your records safely, keeping your finances organized, and using high-quality bookkeeping and accounting technology is crucial.
Set yourself up for success in the event of an audit by using ReInvestWealth's AI accountant. Start today with a free trial for 30 days.
Frequently Asked Questions
What happens if I don't respond IRS by the due date?
It's very important that IRS hear from you by the date shown on your letter or notice. If you don’t respond by the date shown on the letter or notice, IRS will complete the audit and send you an audit report with our proposed changes to your tax return.
What happens when I agree with the IRS audit findings?
If you agree with the IRS audit findings, you will be asked to sign the examination report or a similar form depending upon the type of audit conducted.
What happens when I disagree with the audit findings?
You can request a conference with an IRS manager. The IRS also offers mediation - alternative dispute resolution (ADR) or you can file an appeal if there is enough time remaining on the statute of limitations.
How can I reduce the risk of an IRS audit?
Maintaining good records and accurate supporting documents is essential to reduce the risk of an IRS audit. Businesses should implement best practices in bookkeeping and accounting, ensure accurate reporting of income and expenses, and file taxes on time.
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Disclaimer
The content of this blog post is for informational purposes only and does not constitute accounting, tax, business, or legal advice. While ReInvestWealth offers professional accounting and tax advice through paid consultations with a CPA, the information provided here is general in nature and may not be applicable to your specific circumstances.
