The IRS uses computerized screening, information matching, random selection, and other methods to identify tax returns that may need closer review, but being audited does not necessarily mean you did anything wrong.
Key Takeaways
- The IRS does not use one specific factor to automatically trigger an audit.
- Income reported by you that does not match W-2s, 1099s, or other third-party information can attract attention.
- Unusual deductions, credits, losses, or financial activity may increase the likelihood that a return receives additional scrutiny.
- Higher-income and more complex tax returns generally receive more attention from IRS enforcement efforts.
- An IRS notice does not necessarily mean you are being audited.
- Being selected for an audit does not mean the IRS believes you intentionally did something wrong.
- Good records and documentation are your best protection if the IRS questions something on your return.
An IRS audit can be intimidating. It happens when you receive a notice in the mail. You may not know what prompted it. The good news is that an audit does not automatically mean you are in serious trouble.
The IRS says it selects returns using several methods, including computerized screening, random selection, and comparisons with information received from third parties. Moreover, related tax returns can also be examined when they involve transactions or taxpayers connected to a return already under review.
Before looking at what can lead to an audit, however, it is important to understand the difference between an IRS notice and an IRS audit. The two are not necessarily the same thing.
IRS Audit vs. IRS Notice: What’s the Difference?
An IRS notice is a written communication from the IRS about a specific issue with your tax account or return. An audit, also called an examination, is a more detailed review of your tax return and the records supporting it. You can receive an IRS notice without undergoing an IRS audit.
For example, the IRS may send a notice because:
- The income reported on your return does not match a W-2 or 1099.
- There is a mathematical or reporting error.
- The IRS needs additional information.
- A tax payment or balance is missing.
- The IRS has made a proposed change to your return.
- A tax credit or deduction requires additional documentation.
Some notices can be resolved simply by reviewing the information and responding as instructed. Others may require documentation or additional action.
An audit is different. During an examination, the IRS may ask you to provide records supporting income, deductions, credits, or other information reported on your return. Depending on the situation, the examination may take place by correspondence, at an IRS office, or in person.
Does an IRS Notice Mean You Are Being Audited?
No. Receiving a notice from the IRS does not automatically mean you are being audited. Some IRS notices are routine requests to correct or clarify information and can be resolved without a formal examination of your tax return.
That said, you should never ignore an IRS notice. Read it carefully, note the response deadline, and determine exactly what the IRS is asking you to do. The IRS Understanding Your IRS Notice or Letter page provides information about many common IRS notices and letters.
If the notice involves a substantial amount of money, multiple tax years, business activity, or an issue you do not understand, getting help from a CPA or qualified tax professional can be worthwhile.
Understanding what can attract IRS attention can help you file a more accurate return and keep the records you may need if questions arise.
Income That Does Not Match IRS Records
One of the clearest reasons a tax return can receive additional attention is when the income reported on the return does not match information the IRS has received from employers, financial institutions, businesses, or other third parties.
For example, the IRS may receive information from:
- W-2 forms
- 1099 forms
- Retirement account providers
- Banks and financial institutions
- Brokerage firms
- Other reporting organizations
The IRS uses information matching as part of its examination selection process. If the information reported on your return does not agree with information submitted to the IRS, you may receive a notice or the return may be selected for further examination. This is one reason it is important to make sure all of your income documents are accounted for before filing.
Unusually Large Deductions
There is nothing wrong with claiming legitimate tax deductions. The problem arises when deductions appear inconsistent with your income, business activity, or other information reported on the return.
For example, a business owner reporting relatively modest income while claiming unusually large business expenses may receive more scrutiny. That does not mean the deductions are automatically wrong. If the expenses are legitimate and properly documented, you should claim them. The important thing is being able to explain and substantiate them.
The IRS may request documentation supporting income, expenses, credits, or deductions during an examination.
Large Business Losses
Business losses are not automatically a reason for an audit. Businesses can legitimately lose money, particularly during their early years or during periods of economic difficulty. However, large or recurring losses can attract questions, particularly when the activity appears inconsistent with the way the business is operated or reported.
If you operate a business that regularly reports losses, keep detailed records showing:
- Revenue
- Business expenses
- Bank transactions
- Invoices
- Receipts
- Business purpose for major expenses
- Documentation supporting your business activities
Good bookkeeping gives you evidence to support the numbers on your return.
Claiming Tax Credits That Require Detailed Eligibility
Certain tax credits have specific eligibility requirements, and the IRS pays close attention to returns claiming credits where errors are more common. The Earned Income Tax Credit, Child Tax Credit, and certain education-related credits are examples.
The IRS uses computerized screening and other compliance processes to identify returns that may contain errors involving credits and filing status. That does not mean you should avoid a credit you legitimately qualify for. It means you should make sure you meet the requirements and retain documentation supporting your claim.
High Income and Complex Tax Returns
Income level can be a factor in IRS enforcement, although there is no specific income amount that automatically triggers an audit. Higher-income taxpayers often have more complicated returns involving investments, businesses, partnerships, real estate, trusts, international transactions, and other financial activity.
The IRS has stated that its enforcement efforts include a focus on high-income and high-wealth individuals, complex partnerships, and large corporations. As a result, taxpayers with more complicated financial situations may benefit from proactive tax planning and professional tax advice.
Significant Changes From Previous Tax Returns
A major change in income, deductions, business activity, or other tax information is not automatically suspicious. People’s financial situations change. You may sell a property, start a business, retire, receive an inheritance, exercise stock options, or experience a significant change in income. However, significant changes can result in additional questions if the numbers are unusual or difficult to reconcile with other information.
The best approach is not to avoid legitimate changes. It is to make sure your return accurately reflects what happened and that your records support it.
Related Taxpayers or Business Partners Are Audited
Sometimes an audit has less to do with your own return and more to do with someone connected to it. The IRS calls these related examinations. For example, if a business partnership, investor, or other taxpayer is selected for examination, the IRS may review related returns or transactions.
This can be particularly relevant for business owners, investors, partners, and people involved in complex transactions.
Mathematical or Reporting Errors
Simple mistakes do not necessarily result in a full IRS audit, but they can cause the IRS to contact you.
Examples include:
- Incorrect Social Security numbers
- Math errors
- Missing information
- Incorrect filing status
- Reporting income on the wrong line
- Information that does not match third-party records
Some issues can be resolved through an IRS notice without a formal audit.
Carefully reviewing your return before filing can prevent many avoidable problems.
Claiming Personal Expenses as Business Expenses
Business owners should be especially careful about separating personal and business expenses.
Legitimate business expenses can generally be deductible when they meet the applicable tax requirements. Personal expenses, however, should not simply be labeled as business expenses to reduce taxable income. Problems can arise when records do not clearly establish the business purpose of an expense.
This is particularly important for expenses involving:
- Vehicles
- Travel
- Meals
- Home offices
- Computers and electronics
- Cell phones
- Family members
- Mixed personal and business use property
Good bookkeeping makes it much easier to demonstrate which expenses are genuinely related to the business.
Excessive Charitable Contributions
Charitable donations can provide valuable tax benefits when properly claimed, but large deductions should be supported by appropriate documentation. The tax treatment can depend on the type of donation, the organization receiving it, and whether the contribution was cash, property, securities, or another type of asset.
If you make substantial charitable contributions, keep records showing what you donated, when you donated it, and the documentation required for the particular contribution. The IRS charitable contribution guidance explains the documentation and substantiation requirements that may apply.
Foreign Accounts and International Transactions
International financial activity can create additional reporting requirements.
Depending on your circumstances, this could involve:
- Foreign bank accounts
- Foreign investments
- Foreign business interests
- Income earned outside the United States
- Foreign trusts or other financial arrangements
International reporting rules can be complicated, and failing to report required information can lead to significant penalties. If you have substantial international financial activity, it is worth discussing your situation with a CPA or tax professional before filing.
The IRS International Taxpayers section provides additional information about U.S. taxpayers with international tax obligations.
Does Filing an Amended Return Trigger an Audit?
Filing an amended return does not automatically trigger an audit. The IRS specifically states that filing an amended return does not affect the selection process for the original return. However, an amended return itself can also go through the IRS screening process and may be selected for examination.
If you discover a legitimate error on a previously filed return, correcting it is generally preferable to leaving an incorrect return uncorrected simply because you are worried about an audit.
Does Getting a Large Refund Trigger an IRS Audit?
Not necessarily. A large refund by itself is not an automatic audit trigger. The IRS specifically notes that receiving a refund does not necessarily cause a return to be selected for examination.
A refund may simply reflect withholding, estimated payments, refundable tax credits, or other legitimate factors.
What Should You Do If You Receive an IRS Audit Notice?
First, don’t panic. If the IRS is initiating an audit, the IRS says it will initially contact you by mail rather than starting the audit by telephone. The notice will explain what the IRS is reviewing and what information you need to provide.
If you receive an IRS notice that is not an audit notice, the same basic advice applies: read it carefully and determine what the IRS is asking you to do. Pay attention to the response deadline.
You should then gather the records related to the items being questioned. Depending on the audit or notice, these may include:
- Tax returns
- Bank statements
- Receipts
- Invoices
- W-2s and 1099s
- Business records
- Mileage records
- Investment statements
- Documentation supporting deductions and credits
The IRS recommends organizing requested records by year and by type of income or expense.
If the issues are complicated or you are uncomfortable communicating with the IRS yourself, consider having a CPA or qualified tax professional help you respond.
How Can You Reduce the Risk of Problems With the IRS?
There is no way to guarantee that your return will never be selected for examination. The IRS uses random selection and computerized screening, among other methods, so even an accurately prepared return can be audited. What you can control is the quality of your tax return and your records.
A few good habits can make a significant difference:
- Report all taxable income accurately.
- Reconcile your tax documents before filing.
- Keep receipts and supporting documentation.
- Separate personal and business expenses.
- Review unusually large deductions before filing.
- Keep good business records throughout the year.
- Ask questions when you are unsure about a tax rule.
- Work with a CPA when your tax situation becomes complicated.
The goal should not be to make your return look “safe” by avoiding legitimate deductions. The goal is to file an accurate return and have documentation to support the information you report.
A Tax Audit Does Not Mean You Did Something Wrong
One of the biggest misconceptions about IRS audits is that being selected means the IRS believes you intentionally cheated on your taxes. That is not necessarily the case.
The IRS says most tax returns are accepted as filed, and selection for examination does not suggest that a taxpayer was dishonest. Some audits result in no change, while others may result in a refund or an adjustment to the tax owed.
If you receive an audit notice, take it seriously, but don’t assume the worst. Responding accurately and providing appropriate documentation can go a long way toward resolving the matter.
Frequently Asked Questions
What is the most common reason for an IRS audit?
There is no single most common audit trigger. The IRS uses computerized screening, information matching, random selection, and other methods to select returns for examination. Discrepancies between income reported on a tax return and information submitted by third parties can be one reason a return receives attention.
Does a high income automatically trigger an IRS audit?
No. There is no income level that automatically guarantees an audit. However, the IRS has stated that enforcement efforts include high-income and high-wealth individuals and complex business entities, so higher-income taxpayers may face greater scrutiny.
Can large business deductions trigger an audit?
Large deductions do not automatically trigger an audit. However, deductions that appear unusual compared with the income or activity reported on a return may receive additional scrutiny. Proper documentation is important.
Does the IRS audit small businesses?
Yes. The IRS audits individuals, corporations, partnerships, S corporations, and other taxpayers. Small business owners should maintain accurate records of income and expenses and retain documentation supporting their tax returns.
Can the IRS audit you because someone reported you?
Information from individuals, public records, and other sources can be used in IRS compliance activities. The IRS also uses information matching, computerized screening, and other selection methods.
How far back can the IRS audit you?
In many situations, the IRS generally has three years from the date a return was filed to assess additional tax, although exceptions can extend that period. Certain situations, including substantially understating income or filing a fraudulent return, can involve longer periods. Taxpayers should consult a tax professional about their specific circumstances.
Does the IRS call you before an audit?
Generally, no. The IRS says it will initially contact taxpayers about an audit by mail rather than starting the audit by telephone.
Should I hire a CPA if I am being audited?
If your audit involves significant deductions, business activity, multiple years, complex transactions, or a potentially substantial tax liability, professional assistance can be valuable. A CPA can help you understand the request, organize documentation, and communicate with the IRS.
Helpful IRS Resources
The IRS Audits page explains how returns are selected, how audits are conducted, and what taxpayers can expect.
The IRS Records Request guidance explains the types of documentation the IRS may request during an examination.
The IRS Taxpayer Bill of Rights explains the protections and rights taxpayers have when dealing with the IRS.
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A CPA isn’t just someone you call during tax season—they’re a year-round partner in your business success. From financial analysis to tax strategy to long-term planning, a CPA brings clarity to your numbers and confidence to your decisions. With C.S. West and Associates by your side, you’re not just running your business—you’re steering it in the right direction. Located in the Brandon area of Tampa Bay, we are well-qualified to advise you on all your financial business decisions. If you need assistance, please contact us today!
