The general rule is that the IRS has three years from the return's filing or due date, whichever is later, to audit a taxpayer. However, this rule is subject to several exceptions.
Six Year Statute of Limitations
In certain cases, the IRS has a total of six years from the return's filing date to audit. This rule applies if a taxpayer’s return has a “substantial understatement of income.” Generally, this means that the taxpayer failed to report an amount exceeding 25% of the gross income reported on the return. This rule also applies to overstated basis cases for sales of assets.
No Statute of Limitations
The IRS has no time limit on auditing when a taxpayer fails to file a return, or files a false or fraudulent return. In certain cases, even when a taxpayer files a return, the IRS may consider a taxpayer’s return invalid, and therefore not filed. This typically happens when taxpayers incorrectly file a return by failing to sign.
The IRS may request an extension of the statute of limitations. Extensions granted under Form 872, extend the statute of limitations to a specific future day. Extensions granted under Form 872-A, extend the statute of limitations indefinitely, with certain revocability provisions. An extension is voluntary and if a taxpayer decides to grant it, a taxpayer can attempt to exclude certain issues from the extension or further limit the time period.
Different rules regarding the statute of limitations may also apply to foreign income, foreign gifts, foreign assets and foreign corporations. Additionally, states may have different statutes of limitations that apply to a taxpayer’s state returns. Finally, even though the IRS may be unable to audit certain years, the IRS is still able to consider facts from closed years to determine a taxpayer’s liability for open tax years. Therefore, taxpayers should retain records from closed years that are relevant to determining tax liability in future years.