What Is a Tax Credit Assessment: IRS Exams and Appeals

A tax credit assessment is the IRS’s process for verifying that a credit you claimed on your return is valid, properly calculated, and backed by adequate documentation. Because credits reduce tax dollar for dollar rather than just lowering taxable income, the IRS reviews questionable credit claims more aggressively than most deduction issues. A review can end three ways: the credit is accepted in full, reduced in part, or disallowed entirely. Each outcome changes what you owe and what you have to do next.

Why the IRS Picks a Credit for Review

Every return runs through automated scoring before anyone at the IRS reads it. The Discriminant Function System (DIF) assigns a numeric score based on how likely an examination would produce a change to the tax owed. Returns with the highest scores get pulled for human screening, and individual line items, credits included, can trigger the flag.1Internal Revenue Service. The Examination (Audit) Process

A credit that sharply cuts your effective tax rate, or produces a large refund relative to reported income, scores higher. So does a credit that looks unusual next to comparable returns in your income bracket or industry. The IRS also runs targeted compliance projects on credit types with historically high error rates, concentrating examiners on the areas where noncompliance shows up most often.2Internal Revenue Service. Internal Revenue Manual 4.17.1 – Overview of Compliance Initiative Projects

Which Credits Get Examined Most Often

The Earned Income Tax Credit is probably the single most examined credit for individual filers. IRS compliance studies have long shown high overclaim rates, and enforcement initiatives on EITC eligibility have run since at least 2003.3Internal Revenue Service. IRS Earned Income Tax Credit (EITC) Initiative Status Report to Congress In fiscal year 2024, the IRS examined about 168,800 returns selected specifically because of an EITC claim, roughly 0.7% of returns with that credit.4Internal Revenue Service. IRS Data Book, 2024 That figure is small in absolute terms but higher than the overall individual audit rate.

On the business side, the Research and Development credit under Internal Revenue Code Section 41 is a regular target. Eligibility turns on whether expenses qualify as “in-house research expenses” or “contract research expenses,” and both categories require judgment about what counts as qualified research.5Office of the Law Revision Counsel. 26 US Code 41 – Credit for Increasing Research Activities The mix of subjective standards and large dollar amounts keeps R&D credits under examination.

Energy credits have also drawn heavy scrutiny, partly because the Inflation Reduction Act created new transferability rules that allow credits to be bought and sold. Two shifts are worth flagging for 2026. The Residential Clean Energy Credit is not available for property placed in service after December 31, 2025.6Internal Revenue Service. Residential Clean Energy Credit The New Clean Vehicle Credit, Previously-Owned Clean Vehicle Credit, and Qualified Commercial Clean Vehicle Credit are not available for vehicles acquired after September 30, 2025.7Internal Revenue Service. Clean Vehicle Tax Credits If you claimed any of these on a 2025 return, the IRS can still examine that claim well into 2026 and beyond, so hold your records.

What the Examination Looks Like

An examination opens with a letter identifying the items under question and telling you what documentation to send and how to respond.8Taxpayer Advocate Service. What to Do if You Receive Notification Your Tax Return Is Being Examined or Audited

Credit examinations take one of two forms. A correspondence audit is handled entirely by mail and focuses on a narrow issue, like whether you met the income threshold for a credit or hold a required certification. These usually close in three to six months. A field audit is more intensive: an examiner visits your business location or your representative’s office and reviews records in person. Field audits are common for complex business credits like R&D and can run considerably longer.

Information Document Requests

During the audit, the examiner issues Information Document Requests (IDRs) asking for specific records and explanations. The first IDR tends to be broad, covering general books, records, and accounting methods. Later IDRs narrow to the specific credit issues.9Internal Revenue Service. Navigating the IDR Process You get a deadline to respond, though extensions can often be negotiated. Ignoring an IDR is one of the fastest ways to lose a credit, because the examiner can move to disallowance based on the records you didn’t provide.

The Closing Conference

After reviewing everything, the examiner holds a closing conference to present tentative findings. If the credit stands, you receive a “no change” letter and the file closes. If the examiner proposes adjustments, a formal report lays out the reasons and calculates the additional tax.

Documentation That Saves a Credit

Contemporaneous documentation is the whole game. Records made at the time the credit-generating activity happened carry weight; records assembled after the audit notice arrives carry much less, and examiners are trained to tell the difference.

For R&D credits, the IRS Audit Techniques Guide spells out what examiners want: project authorizations and budgets, progress reports, meeting minutes discussing research activities, field and lab data, and complete copies of any contracts for research performed by third parties. Wage documentation should include names, amounts, department assignments, job titles, and the percentage of time allocated to qualified activities. Supply costs should tie back to the general ledger by category.10Internal Revenue Service. Audit Techniques Guide: Credit for Increasing Research Activities Where contemporaneous records are missing, courts may allow estimation, but only if you can first prove qualified research actually happened and the recordkeeping gap wasn’t your fault.

For individual credits like the EITC, Child Tax Credit, or American Opportunity Tax Credit, the documents look different but matter just as much. You need records establishing the qualifying relationship (birth certificates, school records, custody documents), residency (lease agreements, utility bills, school enrollment), and income (W-2s, pay stubs, self-employment records). For education credits, you need Form 1098-T from the institution and receipts for qualifying expenses.

For energy credits claimed on prior-year returns, third-party certifications from qualified professionals are essential, and they must include specific test data and the manufacturer’s certification that the product meets statutory efficiency standards. Track the credit amount separately from any corresponding deduction, or you risk claiming the same expense twice.

How Long to Keep the Records

Keep records supporting any item on your return for as long as they could become relevant, which generally means until the statute of limitations on that return expires.11Internal Revenue Service. Topic No. 305, Recordkeeping For most credit claims, that’s at least three years after filing. If you underreported income by more than 25%, the window stretches to six years. If you claimed a loss from worthless securities or a bad debt, keep records for seven years.

As a practical matter, six years is a safer floor. R&D credits and energy credits involving depreciable property warrant even longer retention, because the placed-in-service date and original basis can matter well past the standard three-year window if the property is later subject to recapture.

Disagreeing With the Findings: The 30-Day Letter

If the examiner proposes changes you disagree with, the process doesn’t jump straight to court. The IRS sends a 30-day letter first, typically Letter 525 or Letter 950, showing the proposed adjustments and how they affect your tax. You have 30 days from the date of that letter to either sign the enclosed agreement or file a written protest requesting review by the IRS Independent Office of Appeals.12Internal Revenue Service. Letters and Notices Offering an Appeal Opportunity

Most credit disputes actually get resolved here. The Appeals Office sits separate from the examination division, and its job is to settle cases without litigation in a way that’s fair to both sides.13Internal Revenue Service. Appeals A written protest should identify which proposed adjustments you disagree with, the facts supporting your position, and the law or authority you rely on.14Internal Revenue Service. Preparing a Request for Appeals A well-prepared protest that includes documentation the examiner never saw can sometimes reverse a disallowance entirely.

Fast Track Settlement

If you want a faster path, the IRS offers Fast Track Settlement, a voluntary mediation program you can request once the examiner has finished work and issues remain open. For small businesses, self-employed filers, and individuals, the target is to close the case within 60 days of acceptance. Large businesses with international operations get a 120-day target. You apply on Form 14017.15Internal Revenue Service. Fast Track Fast Track doesn’t fit every case, but for straightforward credit disputes where the facts are settled and the disagreement is about interpretation, it can save months.

The 90-Day Letter and Tax Court

If you don’t respond to the 30-day letter, can’t settle at Appeals, or bypass both, the IRS issues a Notice of Deficiency, known as a 90-day letter. This is a formal legal document asserting you owe additional tax.16Taxpayer Advocate Service. 90-Day Notice of Deficiency

You have exactly 90 days from the mailing date to file a petition with the U.S. Tax Court, or 150 days if you’re outside the country.17Office of the Law Revision Counsel. 26 USC 6213 – Restrictions Applicable to Deficiencies; Petition to Tax Court Nobody can extend this deadline, including the IRS. Miss it and the proposed deficiency becomes a final assessment, and collection actions like wage garnishment and bank levies can begin.

In Tax Court, the burden of proof generally rests on you.18United States Tax Court. Rule 142 – Burden of Proof It can shift to the IRS if you introduce credible evidence, but only if you complied with substantiation requirements, kept required records, and cooperated with reasonable IRS requests during the examination.19Office of the Law Revision Counsel. 26 USC 7491 – Burden of Proof The shift rarely helps taxpayers who had poor records during the audit, because the cooperation piece is a prerequisite.

How Long the IRS Has to Assess

The IRS generally has three years from the date you filed your return to assess additional tax, including tax resulting from a disallowed credit.20Internal Revenue Service. Time IRS Can Assess Tax Several exceptions extend that window:

Signing an extension is voluntary. The IRS may present it as routine, but you can refuse. The risk in refusing is that the examiner may issue a determination before finishing the review, which can mean a larger adjustment than you’d have received with more time for discussion. When you have a strong case that just needs time to present, most tax professionals recommend signing.

The assessment clock also pauses while a Notice of Deficiency is outstanding. The suspension starts the day after the letter is mailed and doesn’t end until 60 days after a final Tax Court decision.20Internal Revenue Service. Time IRS Can Assess Tax

What a Reduced or Disallowed Credit Costs

When a credit is cut or disallowed, you owe the additional tax plus interest running from the original due date of the return. For the first quarter of 2026, the IRS charges 7% per year on individual underpayments, compounded daily.23Internal Revenue Service. Interest Rates Remain the Same for the First Quarter of 2026 That rate drops to 6% starting April 1, 2026.24Internal Revenue Service. Internal Revenue Bulletin No. 2026-08 Interest rates reset quarterly. Interest accrues whether or not you knew the credit was wrong, and the IRS has almost no authority to waive it.

On top of interest, the IRS can add an accuracy-related penalty of 20% of the underpayment attributable to negligence or a substantial understatement of income tax.25Internal Revenue Service. Accuracy-Related Penalty For individuals, a “substantial understatement” means the understatement exceeds the greater of 10% of the correct tax or $5,000. The rate rises to 40% for gross valuation misstatements.26Internal Revenue Service. 20.1.5 Return Related Penalties

You can avoid the 20% penalty by showing reasonable cause and good faith.27Office of the Law Revision Counsel. 26 USC 6664 – Definitions and Special Rules In practice, that usually means you relied on a qualified tax professional who had all the relevant facts, or you genuinely tried to comply with complex rules and fell short despite reasonable effort. “My accountant handled it” isn’t enough if you didn’t give the accountant complete information.

Claiming the Credit Again After Disallowance

If the IRS reduces or disallows your Earned Income Credit, Child Tax Credit, Additional Child Tax Credit, Credit for Other Dependents, or American Opportunity Tax Credit, you can’t just put the same credit back on next year’s return. You must file Form 8862 with the next return that includes any of those credits, showing you now meet all eligibility requirements.28Internal Revenue Service. About Form 8862, Information To Claim Certain Credits After Disallowance Skip Form 8862 and the credit gets rejected again.

The form asks for the same categories of information the examiner wanted: qualifying child details, residency proof, and income documentation. If the original disallowance was due to fraud or reckless disregard of the rules rather than an honest error, the IRS can bar you from claiming the credit for two years (reckless claims) or ten years (fraud).29Internal Revenue Service. Instructions for Form 8862 During a ban, you can’t e-file a return that attempts to claim the credit; it has to be mailed.