Agreeing to Extend the Time for an IRS Audit or Not?
Congress provided a limited time for the IRS to audit tax returns. This time can be extended if the taxpayer agrees. While some taxpayers require the IRS to stick to the time provided by Congress, other taxpayers choose to extend the time period. This is a difficult issue that taxpayers face on audit.
The Assessment Statute
The IRS has a limited amount of time to audit tax returns. This time period is generally three years from the date the return was due or from the date on which the return was actually filed, whichever is later.
When the IRS audits a tax return and determines that there is an additional tax liability, the additional tax assessment must generally be processed within this time period. This three?year assessment statute of limitations normally cannot be extended without the taxpayer’s written consent.
Extending the Assessment Statute
To extend the statute, the IRS generally requests that the taxpayer provide a signed consent form, such as Form 872, Consent to Extend the Time to Assess Tax, or Form SS-10, Consent to Extend the Time to Assess Employment Taxes.
These consent forms extend the assessment statute of limitations to either a specific period of time or an unlimited, indefinite period. The statute is usually extended for a period of time that both the IRS and the taxpayer agree is “reasonable” to complete the audit. The consent can also be negotiated to apply only to certain audit issues (although many IRS agents refuse to do so).
It is easy to understand why a taxpayer would not agree to extend the audit period. A taxpayer might decide to limit or refuse to extend the assessment statute of limitations because the taxpayer might not want to provide the IRS more time to consider additional issues on audit or allow the IRS the opportunity to further develop audit issues already under consideration after the normal statute period has expired.
Why Taxpayers Agree to Extend the Statute
This raises the question as to why a taxpayer might agree to extend the statute. A taxpayer might agree to extend the statute:
- When they want to pursue additional audit issues that are in the taxpayer’s favor in offsetting a proposed tax assessment or that might allow for a tax refund.
- If the remaining time before the statute expires is too short, to avoid having the IRS prematurely stop the audit process and issue a notice of deficiency that limits the time for the normal appeals process before the taxpayer must file a petition with the U.S. Tax Court.
Consequences of Not Extending the Statute
In many cases, if the taxpayer is able to get all of the information into the audit record that it needs to substantiate its claims, taxpayers are better off not agreeing to extend the statute. This is particularly true for larger taxpayers and for more complex audits. There are consequences for this course of action, however.
This will usually result in the IRS closing the audit as an unagreed case with the issuance of a statutory notice of deficiency. The proposed adjustments will also tend to be significantly larger, as the IRS may hedge its bets given that the issues will probably not be as well developed by the IRS on audit. The taxpayer will have to file a petition in the U.S. Tax Court before their case will be forwarded to the IRS Office of Appeals for settlement consideration. Some taxpayers may not prefer the publicity associated with this or the impact it can have on their reserve positions.
There can be benefits of this course of action too. In addition to keeping the IRS from discovering other issues and keeping the IRS focused on closing the audit timely, it can result in a case that is easier to defend given that it was not fully developed on audit. Also, since tax court petitions are relatively brief, this course of action can have the added benefit of avoiding the time and cost of developing a detailed appeals protest.
As a practical matter, to the extent the taxpayer is not willing to extend the assessment statute, the taxpayer should put the IRS on notice of this at the start of the audit. If presented appropriately and in advance, this can go a long way in making sure that the IRS is not put off (too much) by the refusal to extend the assessment period.