Editorial · April 24, 2025
IRS audit small business: what tends to trigger one
IRS audit small business cases begin with a letter in the mail, not a phone call. An audit is a review of your books, accounts and financial records. The IRS uses it to check that the numbers on your tax return are right. Being picked does not always mean you did something wrong.
What the IRS says gets a return picked
The IRS says it uses a few different ways to select returns. The first is random selection and computer screening. Some returns are chosen only because of a statistical formula. The IRS also compares your return against "norms" for similar returns. It builds those norms from audits of a random sample of returns in its National Research Program.
The second way is a related exam. If your business partner or an investor is audited, the IRS may look at your return too, because the two of you share transactions. The IRS also says a refund is not necessarily a trigger. Filing an amended return does not change how the first return was selected, but the amended return goes through screening and can be picked on its own.
The agency does not publish a list of red flags, so be careful with any article that claims to know the exact formula. What is public is the method: statistics, comparison with similar returns, and links to other people's exams.
How you find out
The IRS says it will notify you by mail if your account is chosen. It also says it will not start an audit by telephone. The first letter gives the contact details and the steps to follow. If you get a call or a text that claims to start an audit, treat it with care and check it against the letter you received.
The IRS points taxpayers to its pages that explain notices and letters, so you can match the number on your letter to a plain description. Read the whole letter before you do anything. It tells you what the IRS wants and by what date.
The three kinds of audit
The IRS describes audits as done either by mail or through an in-person interview. That gives three types you may meet.
- Mail audit. The letter asks for more information about certain items on the return, such as income, expenses and itemized deductions. You send your answer by mail.
- Office audit. You meet an examiner at an IRS office to go over your records.
- Field audit. The examiner comes to your home, your place of business, or your accountant's or representative's office.
If you have too many books or records to mail, you can ask for a face-to-face audit. The IRS adds that examiners may use its Audit Techniques Guides, which give you an idea of what to expect for your type of business.
How far back the IRS can look
Generally, the IRS can include returns filed within the last three years in an audit. If it finds a substantial error, it may add more years. It says it usually does not go back more than six years. It also says most audits cover returns filed within the last two years.
The three-year period comes from the statute of limitations for assessing tax. The IRS says that period is generally three years after a return is due or was filed, whichever is later. When it ends, the IRS can no longer assess or collect additional tax. The IRS may ask you to extend that date if an audit is not finished. You do not have to agree, but the IRS notes that the auditor would then decide based on the information already provided.
How to keep records ready
The IRS says the law requires you to keep all records you used to prepare your return for at least three years from the date the return was filed. For a business, the IRS recordkeeping page says you must keep records as long as they are needed to prove the income or deductions on a return. Employment tax records should be kept for at least four years.
You may choose any recordkeeping system that clearly shows your income and expenses. Except in a few cases, the law does not require a special kind. Purchases, sales, payroll and other transactions create documents, and the information on them needs to go into your books. The IRS calls the duty to back up your entries the burden of proof. You must be able to prove certain parts of an expense to deduct it.
A simple habit helps. Save receipts, invoices, bank statements and payroll files in one place, by tax year. Note what each expense was for. IRS Publication 583, Starting a Business and Keeping Records, is the agency's guide on this topic.
What to do if a letter arrives
Respond by the date on the letter. The IRS says that if you do not, it will complete the audit and send a report with its proposed changes to your return. If you need more time on a mail audit, the IRS says it can ordinarily grant a one-time automatic 30-day extension when you send a written request to the fax number or address on the letter. For an in-person audit, contact the assigned auditor.
When you send documents, ask for delivery confirmation. The IRS also lists your rights in Publication 1, Your Rights as a Taxpayer. They include professional and courteous treatment, privacy, the right to know why the IRS asks for information, the right to be represented, and the right to appeal a disagreement. You may bring in an accountant or other authorized representative. This article is general information, not tax advice.
Sources: IRS, "IRS audits," irs.gov/businesses/small-businesses-self-employed/irs-audits; IRS, "Recordkeeping," irs.gov/businesses/small-businesses-self-employed/recordkeeping. Both pages were current as of April 24, 2025.