Physicians tend to assume an audit will be about some aggressive deduction. Usually it is about something duller and more dangerous: the IRS's information returns do not match the practice's books. Few small businesses have as much of their revenue reported to the IRS by someone else as a medical practice. Insurers report what they paid you. Card processors report what patients charged. The IRS can add that up before an examiner ever opens a file.
The IRS has not published an audit technique guide specifically for medical practices. But its general examination procedures, and the information it collects about practices, tell you where the questions come from.
1. Income: matching what payers already reported
The Internal Revenue Manual's minimum income probes, in IRM 4.10.4 (revised August 29, 2025), include reconciling income on the books to income on the return and testing gross receipts. The IRS's Construction Industry Audit Technique Guide, describing the same IRM probes, puts it plainly: examiners reconcile the information returns in the file to make sure the return reflects all business activity. Every medical practice should assume the same reconciliation will be done on it.
The sources the IRS can match against a practice include:
- Insurer payments. The Form 1099-MISC instructions direct payers, including medical and health care insurers under health, accident and sickness programs, to report medical and health care payments in box 6, and to list the corporation as the recipient when payment is made to a corporation. Medical corporations are not exempt from this reporting, which is an exception to the general corporate exemption in Treas. Reg. 1.6041-3(p)(1). For 2026 payments, the box 6 threshold is $2,000.
- Card payments. Under IRC 6050W, payment settlement entities report payment card transactions on Form 1099-K. Notice 2025-62 confirms that all payment card settlements are reportable, with no de minimis threshold; the $20,000 and 200-transaction threshold applies only to third party network transactions.
- Medicare and other federal payments, which flow through government payment systems.
Matching gets messy in practices because payments are reported to whatever TIN the payer has on file. A practice that changed entities, a physician who billed under a personal number before incorporating, or a group whose payers report to the wrong EIN can all show "unreported income" that is really a reporting mismatch. That problem is common enough that we cover it separately in our guide to medical 1099 mismatches.
Cash and elective services
Third-party reporting covers insurance and cards. It does not cover cash copays, cash-pay cosmetic or elective procedures, or patient checks. Those are where examiners use the rest of the minimum income probes: interviews about how payments are collected, internal controls over the front desk, and bank account analysis. If cash-pay revenue is a meaningful part of your practice, deposit it intact and keep the daily reconciliation between the practice management system and the bank.
2. The building you rent to yourself
Many physicians own the practice's office building in a separate LLC and lease it to the practice. That is a legitimate structure. It also has a tax consequence that surprises owners.
Under Treas. Reg. 1.469-2(f)(6), net rental income from property rented for use in a trade or business activity in which the taxpayer materially participates is treated as not from a passive activity. So the rent your building LLC earns from your practice cannot be used to absorb passive losses from other investments. Owners who net the two together on their returns are making a mistake an examiner can spot from the K-1s alone.
The rent also has to be reasonable. Rent above market moves income from one pocket to another and invites questions about whether the excess is really a distribution or compensation.
3. Material participation after you step back
Physicians who reduce their hours, retire from clinical work or keep an ownership interest in a former practice should know one regulation. Under Treas. Reg. 1.469-5T(a)(6), an individual materially participates in a personal service activity for the year if he materially participated in it for any three taxable years before. Section 1.469-5T(d) defines a personal service activity to include services in the field of health. A physician who has worked full time in a practice for years can remain a material participant even after stepping back. That affects how the income is characterized, so make sure the return reflects it.
4. CME travel, conferences and meals
IRC 274(d) denies deductions for traveling expenses, including meals and lodging while away from home, unless the taxpayer substantiates the amount, the time and place, and the business purpose by adequate records or sufficient corroborating evidence. A continuing medical education conference at a resort is deductible to the extent it is business travel and is substantiated. The spouse's ticket, the extra vacation days and the family dinners are not.
Business meals are generally limited to 50 percent under IRC 274(n)(1). Entertainment is generally nondeductible under section 274(a).
5. Vehicles and other listed property
Section 274(d) also requires substantiation for listed property, as defined in section 280F(d)(4). A practice-owned vehicle driven by the physician needs a mileage log that separates business from personal use. For sport utility vehicles, the IRC 179 expensing limit for tax years beginning in 2026 is $32,000 under Rev. Proc. 2025-32. A large SUV deducted in full with no log is a familiar audit adjustment.
6. How providers are paid
Practices often pay some clinicians as independent contractors: moonlighting physicians, part-time consulting physicians, locum tenens arrangements, physician assistants or nurse practitioners who cover shifts. The IRS applies the common law control test, and reclassification brings employment tax liability under IRC 3509. See our guide to provider classification.
7. Personal expenses through the practice
Family cell phones, home renovations, personal vehicles for family members and household staff do not become deductible because the practice pays them. In an S corporation or partnership they are distributions; in a C corporation they can become constructive dividends. Examiners look at the general ledger detail and the credit card statements.
8. Retirement plans and owner pay
Medical practices often sponsor generous retirement plans for the physician owners. The plan rules are outside this guide, but the audit point is simple: contributions must be computed on the right compensation, for the right people, at the right time. When a practice's books show contributions that do not tie to the plan documents or to payroll, the examiner will ask why. Keep the plan document, the annual contribution calculations and the deposit records in the tax file, not just with the plan administrator.
The same goes for how owners take money out. Distributions, salary, payments to partners for services and loans each have different tax consequences, and a practice that labels them inconsistently from year to year gives the examiner a thread to pull. Pick a structure your accountant can defend, document it and follow it every month.
Preparing for an audit
- Reconcile all Forms 1099-MISC, 1099-K and federal payment records to gross receipts, by TIN, before the examiner does.
- Document cash-pay revenue procedures and daily close-out.
- Review the building lease rate and how rental income is reported.
- Pull travel, vehicle and meal substantiation for the years under review.
- Review every 1099 provider relationship against the control factors.
If an examination has started, read how the firm approaches IRS audits. If an unpaid balance follows, the Medicare levy rules in our Medicare levy guide become the next concern.
Your payers already told the IRS what they paid you. The audit starts by checking whether you said the same thing.