Less than 0.4% of individual returns are audited in any given year — and that rate has declined as IRS staffing has fallen. But audits are not random. The IRS uses a statistical scoring system (the Discriminant Inventory Function, or DIF) to identify returns that deviate significantly from statistical norms for their income level and occupation.
The most common audit triggers
- High Schedule C deductions relative to income — A business showing $100,000 in revenue and $95,000 in expenses stands out. Deductions that seem disproportionate relative to industry norms raise the DIF score.
- Home office deduction — Still on the audit radar, particularly when claimed for the first time or at a high percentage of home expenses.
- Large charitable deductions — Deductions that appear disproportionate to income, particularly non-cash contributions, attract scrutiny.
- Round numbers — Perfect round numbers in expense categories suggest estimation rather than actual recordkeeping.
- Hobby losses — Businesses that show consistent losses year after year may trigger the "hobby loss" rules under Section 183, which disallow deductions when there's no profit motive.
- Cash-intensive businesses — Restaurants, car washes, and other cash businesses are subject to heightened scrutiny because income underreporting is hard to detect.
- Failure to report income — Third-party information returns (1099s, W-2s, 1098s) are automatically matched to your return. A 1099 that doesn't appear on your return is a reliable audit trigger.
What an audit actually involves
Most IRS audits are correspondence audits — a letter asking you to verify specific items with documentation. Only a small fraction are field audits involving an in-person meeting. A correspondence audit is typically resolved by mailing substantiating documents: receipts, bank statements, mileage logs.
The protection that documentation provides
The IRS doesn't disallow deductions because someone claims them. It disallows them when the taxpayer cannot substantiate them. Good recordkeeping is not bureaucratic overhead — it is what gives legitimate deductions their legal standing.
For business expenses, the IRS requires documentation showing: the amount, the date, the business purpose, and (for entertainment/meals) the names of people involved. A receipt alone is often insufficient without the business purpose noted.
Statute of limitations
The IRS generally has three years from your filing date (or due date, whichever is later) to initiate an audit. This extends to six years if income was underreported by more than 25% of gross income. There is no statute of limitations if you filed a fraudulent return or failed to file at all.
The practical implication: retain records supporting your tax return for at least six years from the filing date. For capital assets, retain records until six years after you dispose of the asset.
