Key takeaway: Use the initial examination notice to plan the response, then track later requests as the audit develops. Reconcile the books to the return, prepare factual explanations of business operations, and agree on interview and records arrangements with the examiner.
What a field examination involves
A field examination commonly combines records review, interviews and verification of how a business operates. It can involve several rounds of requests and follow-up work. Under Treasury Regulation 301.7605-1, it generally takes place where the relevant original records are maintained, often the business premises. An office examination generally takes place at an IRS office.
The notice and initial information request identify the starting issues and periods. They do not permanently freeze the scope. Section 7602 authorizes examination of relevant or material records, and the examiner may expand the inquiry through applicable procedures. Ask for clarification of a new request when needed; do not treat absence from the first letter as a reason to disregard it.
Start with dates, preservation and responsibility
- Save the notice, envelope, appointment information and document requests.
- Calendar response dates and assign responsibility for each item.
- Preserve the filed returns, workpapers and original accounting records.
- Decide who will coordinate with the examiner and whether to engage a representative.
- Request any needed time or location change before the scheduled deadline or meeting, and confirm the result.
The IRS audit overview explains written document requests, examination formats and extension procedures. Organizing a response is useful, but it is not a reason to let a deadline pass unanswered.
Prepare records that explain the return
| Area | Records to assemble as relevant | Question to answer |
|---|---|---|
| Return and accounting system | Filed returns and amendments, general ledger, trial balance, statements, chart of accounts and tax adjustments | How do the underlying books lead to the tax figures? |
| Revenue and cash | Contracts, invoices, point-of-sale and processor reports, receivables, refunds and bank reconciliations | What was earned, collected or deposited from another source? |
| Expenses | Invoices, receipts, business-purpose evidence, contracts and payment or accrual support | Why is the cost deductible, and in which period? |
| Assets and vehicles | Acquisition and service dates, cost records, depreciation, dispositions and vehicle-use records | What supports basis, cost recovery and business use? |
| Employees | Payroll registers, Forms W-2 and payroll returns, deposit confirmations and compensation records | How do wages, employee withholding and employer taxes reconcile? |
| Contractors | Vendor agreements, payment records, Forms W-9 and applicable Forms 1099, plus classification evidence | Do the actual working arrangements support the tax treatment? |
| Owners and financing | Tax elections, ownership history, contributions, distributions, debt agreements and basis schedules | Which payments are capital, debt, compensation or distributions? |
Keep copies behind an index keyed to the examiner’s request numbers. The IRS records-request guidance recommends organizing by year and type, with transaction summaries and context. A bank entry alone may not establish business purpose, and an invoice alone may not establish payment or tax timing.
Related reading: “Business Tax Audit Records Checklist: How to Protect Your Position” covers Business Tax Audit Records in more detail.
Reconcile revenue, collections and deposits separately
For an illustrative accrual-method business, assume opening receivables of $10,000, $90,000 of revenue recognized during the period, closing receivables of $25,000, and no write-offs, credits or other receivable adjustments. Customer collections are $10,000 + $90,000 − $25,000 = $75,000. The $90,000 revenue figure need not equal cash collected.
If that business also receives $20,000 of genuine loan proceeds, a $5,000 owner capital contribution and a $10,000 transfer from another business bank account, deposits in the receiving account total $110,000. They still are not $110,000 of sales. The transfer increases one account while decreasing another. Support each category with its source records and account for processor fees or other reconciling items where applicable.
IRS Publication 538 explains the basic cash and accrual tax methods. Cash-method expenses generally depend on payment, subject to other rules; accrual deductions require the applicable liability, amount and economic-performance tests. Paid capital purchases may need capitalization, and unpaid expenses can have different treatment. Do not force every deduction into a proof-of-cash-payment rule.
Prepare a bridge between financial-statement income and taxable income. Different depreciation, nondeductible expenses and other adjustments can explain valid differences. Document the explanation instead of editing historical books to make every total identical.
Separate employee payroll from contractor reporting
Forms W-2 and payroll returns concern employee compensation and employment taxes. Contractor payment files and applicable Forms 1099 are a separate category. Issuing a 1099 or using a contractor agreement does not establish independent-contractor status.
The IRS common-law guidance considers behavioral control, financial control and the relationship’s facts. Explain the actual work arrangements and retain the supporting evidence. Consistent paperwork cannot cure an incorrect classification, and other employment laws may use different tests.
Agree on the interview location and participants
Request a change of location with the examiner if needed. The time-and-place regulation balances reasonable scheduling with effective tax administration; a representative’s office is not an automatic entitlement. Even if the main examination occurs elsewhere, the IRS may need a site visit to verify inventory, assets or other facts.
Arrange a suitable meeting area, the relevant records and a knowledgeable contact for business operations. Discuss the purpose and logistics of a requested tour. These arrangements should enable the examination while addressing operational concerns, rather than obstructing a lawful inquiry.
Section 7521 provides interview protections. An eligible representative with written authority can ordinarily appear in a covered civil interview without the taxpayer; the IRS cannot require the taxpayer to accompany that representative absent an administrative summons. During a covered nonsummons interview, clearly requesting consultation with an eligible adviser requires the interview to be suspended. The section does not apply to criminal investigations. Confirm who will attend and how factual follow-up will be handled.
Prepare factual answers, not a rehearsed story
Review how customers are billed, receipts are deposited, purchases are approved and recorded, payroll is processed and owners take money from the business. Identify which person knows each process. IRM 4.10.3 describes examination techniques that include interviews, internal-control review and tracing transactions through the records.
During the meeting, answer accurately and distinguish personal knowledge from an estimate or a fact that needs checking. If you do not know, say so and identify the record or person who can answer. Ask for clarification of an unclear question and keep notes of follow-up requests. Do not invent explanations to fill a gap.
Afterward, record the requests, responsible person and agreed due dates. Keep the exact documents sent and delivery confirmations. Correct any mistaken factual answer promptly with its supporting evidence.
Preserve electronic records and explain missing evidence
Keep source records separate from working summaries. If a document is unavailable, seek a duplicate or corroborating evidence and label any reconstruction with its date, sources and limitations. Strict substantiation rules can apply to particular expenses; a later estimate is not automatically adequate.
The IRS electronic-records guidance explains that selected reports may not satisfy a request for an accounting-software backup. Discuss format, access and sensitive or privileged material with the examiner and representative. Do not silently replace the original books with a recreated file.
Apply the right retention period
Under the IRS retention guidance, ordinary income-tax support generally has a three-year baseline after filing, treating early returns as filed on the due date. Exceptions include six years for specified substantial income omissions, seven years for worthless-security or bad-debt loss claims, and indefinite retention for unfiled or fraudulent returns. Refund claims can require three years after filing or two after payment, whichever is later. Employment-tax records generally require four years after the tax is due or paid, whichever is later.
Retain asset and basis history through the limitation period for a later disposition. Keep records longer where an active examination, appeal, agreed extension, litigation, state rule or other obligation requires it. Three years is not a blanket instruction to delete older records.
Review proposed changes and define representation scope
Compare proposed adjustments with the supporting facts and applicable tax treatment. The IRS audit overview describes options that may include further explanation, a manager conference or an administrative appeal. Follow the deadlines in the actual report or notice; continuing a discussion does not automatically preserve court rights.
To discuss assistance, contact CPA Firm South Florida with the notice, appointment date and records available. Confirm the engagement’s scope, authorizations and fees. Record organization can assist preparation, but it does not establish a promised cost saving or audit outcome.
Frequently asked questions
Does the first notice permanently limit the audit to those issues?
No. It guides initial preparation, but the examiner may expand issues or periods through applicable procedures. Address later lawful requests and raise scope questions promptly rather than ignoring them.
Can the examination be moved to my representative’s office?
You can request a change, but the IRS evaluates the circumstances. Agreement on another location does not eliminate a warranted visit to the business to verify facts.
Must I attend every interview with my representative?
Not necessarily. In a covered civil interview, an eligible representative with written authority can ordinarily appear without you unless the IRS issues an administrative summons requiring your attendance. Confirm the arrangements and provide accurate business facts.
What should I do about a missing document?
Seek duplicates and corroborating evidence, record the gap, and clearly label any later reconstruction. Preserve originals and do not fabricate or backdate evidence. Discuss the effect on the specific return item.