Few things are more intimidating for a small business owner than receiving an IRS audit notice. Whether it arrives, the message is clear: the IRS wants to review your tax return. But an audit doesn’t always mean you did something wrong — it’s often a review triggered by an inconsistency, random selection, or an issue flagged by automated systems.
Understanding a Small Business Audit
The IRS conducts audits to verify that income, deductions, and credits are reported accurately. For small businesses, audits can focus on:
- Unreported income (cash receipts, digital payments)
- Excessive deductions (meals, vehicle expenses, home office)
- Payroll tax compliance
- Misclassified workers (employee vs. contractor)
📘 Reference: IRS Audit Techniques Guides (ATGs)
Types of IRS Small Business Audits
There are different types of IRS small business audits.
| IRS Audit Type | What It Means | How It’s Conducted |
|---|---|---|
| Correspondence Audit | The simplest type — conducted by mail. | You’ll receive a letter requesting receipts, records, or clarification. You must mail the requested photocopies by the deadline. |
| Office Audit | Conducted at an IRS office. Usually focuses on specific issues (e.g., travel deductions, etc.). | The IRS will send a letter requesting that you come to an IRS office for an interview, bringing specific records and documents. |
| Field Audit | The most serious — performed at your business location. | An IRS revenue agent conducts an in-person investigation, reviewing financial records and potentially interviewing employees or touring the business premises. |
📘 Reference: IRS Audits — What You Should Know
The IRS Audit Process
Step 1: Receiving the Audit Notice
The audit begins with a letter (not a phone call). Your letter will specify if your audit will be handled by mail or in person. Read the letter carefully. Identify the specific tax year being audited and the items in question. The letter will detail what documentation is needed.
💡 Important: The IRS never initiates audits by phone or email — if you receive one, it’s likely a scam.
📘 Reference: Understanding Your IRS Notice or Letter
Step 2: Gathering Documentation
The notice will include Form 4564 (Information Document Request) listing the items the IRS wants. Typical documents include:
- Bank statements (personal and business)
- Receipts for expenses and deductions
- Payroll and 1099 records
- Prior tax returns
Collect everything necessary to support your tax return. Organize your records. Arrange documents by year and type of income or expense. An orderly record set can help speed up the process.
Step 3: The Audit Examination
During the audit, the IRS examiner will:
- Review documentation line by line
- Ask questions about business operations
- Compare records to reported income and deductions
- Identify discrepancies or unsubstantiated items
If you’re represented by a tax attorney, they can attend on your behalf and handle all IRS communications.
📘 Reference: Publication 556 — Examination of Returns
Step 4: The Audit Report and Findings
At the end of the audit, the IRS issues a report detailing proposed adjustments. You’ll receive:
- Form 4549 — Income Tax Examination Changes.
- This form is the official report from the IRS that explains the results of a completed audit. It outlines specific adjustments to your income, deductions, or credits. It also shows the revised tax liability, including any additional tax owed or a potential refund. If additional tax is due, Form 4549 will also show any proposed penalties and interest.
- Letter 525 — Examination Report outlining your rights to appeal.
- This letter is your official notification of the audit’s outcome and the start of the 30-day response period.
You can:
- Agree with the findings and sign the Form 4549. This consents to the assessment and collection of the tax and closes the case. The IRS will then send you a bill for the amount owed.
- Disagree and request an appeal within 30 days with the IRS Office of Appeals. This is an independent office within the IRS that can help resolve disputes without going to court.
- Do nothing and the IRS will send a Notice of Deficiency (90-day letter). This gives you 90 days to petition the U.S. Tax Court.
Step 5: Collection or Resolution
If you agree to the changes, the IRS will bill you for the balance.
If you appeal, the case goes to the IRS Office of Appeals, where an attorney can negotiate for:
- Removal of penalties under reasonable cause
- Reduction of adjustments
- Acceptance of additional documentation
Why Legal Representation Matters During a Business Audit?
Most small business owners unintentionally make the audit worse by handling it alone. A tax attorney can protect your rights and minimize exposure by:
- Communicating directly with the IRS (via Form 2848) so you don’t have to.
- Limiting the scope of the audit to only what’s relevant.
- Preparing and organizing documentation to meet IRS standards.
- Negotiating settlements and reducing penalties where possible.
- Preventing escalation into criminal investigation territory.
💡 Insight: IRS agents are trained investigators. An attorney helps keep the discussion professional, factual, and legally grounded.
Need help with a similar issue? Contact our firm today for a consultation.
An IRS business audit can be stressful, but it doesn’t have to destroy your finances or reputation. The outcome depends less on the initial issue — and more on how you respond. A skilled tax attorney can:
- Defend your rights,
- Negotiate settlements, and
- Prevent your business from facing unnecessary penalties.
If you’ve received an IRS audit letter or Form 4564 request, act immediately. Contact Pelham PLLC to schedule a confidential consultation with a tax attorney who handles small business IRS audits every day.
FAQs
Can I represent myself in an IRS audit?
Yes, but it’s risky. The IRS can use your statements against you later. Having a tax attorney ensures procedural compliance and legal protection.
Can I appeal an audit decision?
Yes — you have 30 days to appeal within the IRS and 90 days after a Notice of Deficiency to file in U.S. Tax Court.
