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Time limits on audits: be aware of the exceptions

"Don't look back," famous Americans from Satchel Paige to Bob Dylan have counseled. Neither of those two men, however, worked for the IRS.

The general rule is that the IRS gets to go back only three years to audit you after you file a return. There are, however, various exceptions that allow the IRS to go back farther. In this post, we will inform you about some of these significant exceptions.

One of the exceptions to the three-year rule is when the IRS contends there has been a "substantial understatement" of income. If you understate your income by more than 25 percent, the length of time the IRS can go back to audit you doubles from three years to six. We discussed this exception last year in our March 21 post.

There are, however, a number of other exceptions that can extend your audit exposure. For example, suppose you neglect to report interest on a foreign account. If the amount that wasn't reported was more than $5,000, the audit period after you filed your taxes can increase to six years.

Six years is a long time. But the period during which the IRS can look back at past returns can get even longer than that in certain situations. In particular, if a tax return was never filed, the time-limitation clock on audits doesn't start ticking at all. Even if all you did was neglect to sign your return, technically the three-year limitation period would not start to run.

The usual time limitation on audits also don't take effect when there are allegations of fraud or criminal tax violations. In practice the IRS may not try to go back much farther than six years. But sometimes the IRS does try to go back a decade or more.

As Robert Wood pointed out in Forbes a few months ago, another scenario to watch out for is failing to file IRS Form 5471, regarding ownership shares in a foreign company. Under legislation passed by Congress in 2010, lack of compliance with Form 5471 filing requirements allows the IRS to audit as far back as it wants.

In short, taxpayers concerned about limiting their audit exposure need to be aware of the exceptions that allow the IRS to keep looking back.

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