​How far back can the IRS audit you?

Have you ever filed a tax return and wondered how long you should keep it, just in case the IRS decides to audit it? Maybe that question came to you after taking a questionable position on a return. As unpleasant as an audit might be, take comfort in the laws that set time limits on IRS audits.

Under the Internal Revenue Code, Section 6501 provides a three-year statute of limitations on tax audits.

It's important to note that filing a tax return on extension has the downside of also extending the time your return is subject to an audit. So, if you filed your 2011 tax return on April 15, 2012, the IRS had until April 15, 2015, to audit it. However, if you had requested an automatic extension and filed Oct. 15, 2012, the IRS still has until Oct. 15, 2015, to audit your return and assess any additional tax and penalties due.

Section 6501 also sets forth a second statute of limitations. The three-year limit is doubled to six years if the IRS finds that a taxpayer omits from gross income an amount that exceeds 25 percent of the stated gross income. In that case, the IRS could audit your 2011 as late as 2017. Underreported income can happen for a variety of legitimate reasons. For example, overestimating your cost basis for calculating the gain on the sale of property or securities held for a long time is very common.

It's worth noting that the IRS doesn't consider any amount as omitted from gross income if you disclose it in the tax return, or in a statement attached to it, and you do it in a manner that's adequate for the IRS to apprise the nature and amount of the item. So, if you used an estimated cost basis to reduce the capital gains income on the sale of property, but you disclosed this and the possible lower cost basis on a written statement, the IRS would have only three years to audit that tax return.

Finally, know about the third statute of limitations: The IRS has no time limit when an audit pertains to assessment of tax if a return is false or fraudulent, reflects a willful attempt to evade taxation or when no tax return at all is filed.

  • Ray Martin

    View all articles by Ray Martin on CBS MoneyWatch»
    Ray Martin has been a practicing financial advisor since 1986, providing financial guidance and advice to individuals. He has appeared regularly as a contributor on the CBS Early Show, CBS NewsPath, as a columnist on CBS Moneywatch.com and on NBC-TV's morning newscast TODAY. He has also appeared on the Oprah Winfrey Show and is the author of two books.