Personal and business Tax

Nonprofit Audits in 2026. Navigating New IRS Scrutiny and Compliance Requirements

For nonprofit organizations across Virginia and Washington DC, the audit landscape has become significantly more complex in 2026. From expanded IRS enforcement directives to new group exemption rules and heightened scrutiny of Form 990 filings, mission-driven organizations face unprecedented compliance challenges. This guide explores the current environment and provides practical strategies for navigating nonprofit audits successfully.

A New Era of Nonprofit Enforcement

The IRS and Treasury Department have signaled a dramatic shift in how they approach tax-exempt organizations. At a recent NYU Tax Controversy Forum, Edward Killen, Commissioner of the IRS Tax Exempt and Government Entities division, emphasized the agency’s commitment to enforcement: “It’s a privilege to be tax exempt. There are rules, both in statute and regulation, so if entities are not abiding by those rules, and there’s abuse, we want to make sure that we are positioning ourselves to identify those issues and to pursue them appropriately and timely and completely” .

The IRS is taking a coordinated approach to enforcement across the agency. “What that requires is that we take a whole of compliance approach to that,” said Killen. “We are in the process of doing that and that’s what we intend to continue to do. I think that’s healthy for tax administration” .

Congressional Pressure for Reform

The House Ways and Means Committee has also intensified its focus on the nonprofit sector. In January 2026, Chairman Jason Smith and all Republican members of the Committee called on the IRS to overhaul its oversight of the nonprofit sector, citing the ongoing Somali fraud scandal in Minnesota as evidence of the need for serious reform .

The letter to Acting IRS Commissioner Scott Bessent and IRS CEO Frank Bisignano came amid an ongoing Ways and Means Committee investigation into waste, fraud, abuse, and other illegal activity within the tax-exempt sector that has resulted in the referral of 11 nonprofit organizations to the IRS for revocation of tax-exempt status .

Investigations Targeting Major Organizations

According to a New York Post report, Treasury Secretary Scott Bessent and the IRS are developing a blueprint to cancel the tax-exempt status of certain left-leaning nonprofits and conduct comprehensive tax audits . Organizations under investigation reportedly include George Soros’s Open Society Foundations, the Southern Poverty Law Center, and the Council on American-Islamic Relations .

If nonprofit tax-exempt status is revoked, the standard federal corporate tax rate of 21% would apply, along with retroactive collection of unpaid taxes and penalties . The New York Post explained that applying the 21% tax rate to the three organizations would result in total tax liabilities of $165 million based on 2024 figures. Of this amount, the Soros Foundation would owe $163.6 million in taxes, accounting for 99% of the total .

Form 990: The First Line of IRS Scrutiny

The IRS can initiate an audit of your nonprofit organization for any number of reasons. But one of the most common is a red flag sent up by your annual filing of Form 990 . Understanding the seven key areas of Form 990 audit scrutiny can help your organization reduce audit risk.

1. Incomplete or Inconsistent Information

Missing schedules, blank boxes, or unsigned forms aren’t just risky because they draw IRS attention. The agency considers incomplete returns to be unfiled returns, which could result in costly penalties . Organizations also need to watch for inconsistent reporting of revenues or expenses between different sections of their form, or between their form and other publicly available information.

2. Unreasonable Compensation

The IRS will notice excessive compensation paid to officers, directors, and high-ranking employees. They’ll also take note if compensation is too low. The compensation you list should be in line with benchmarks for similar positions at comparable organizations and appropriate for your budget .

3. Excess Benefit Transactions

These transactions occur where an organization provides economic benefit—directly or indirectly—to or for a “disqualified person” who was in a position to exercise substantial influence over the organization over the past five years, and the value of the benefit exceeds the value of the consideration the organization receives. Unreasonable compensation is one example. Such transactions can lead to audits and costly intermediate sanctions .

4. Unrelated Business Income (UBI)

It’s perfectly legal, and often advisable, to have UBI. But it’s important to accurately report the income and related expenses and, if the gross UBI is $1,000 or more, include Form 990-T. In addition, while there’s no official threshold, UBI shouldn’t account for too much of your overall revenue .

5. Foreign Grant Activity

U.S. nonprofits are allowed to operate overseas, including providing grant funds to foreign organizations. The IRS keeps a close eye on such activities, though, due to concerns about nonprofits being controlled by foreign entities that are outside its jurisdiction and funds being used for noncharitable purposes. It’s especially interested in foreign bank accounts and foreign organization grants .

6. Fundraising Discrepancies

The IRS expects to see some correlation between fundraising expenses and income. It can seem off, for example, if an event raises significant funds with barely any corresponding expenses. That can be explained by a major donation, but it might prove harder to explain if you incur substantial expenses for an event or campaign that generates little to no income .

7. Diverted Assets

Organizations are required to disclose embezzlement or fraud if the gross value of all illegally diverted assets uncovered during the tax year exceeds 5% of gross receipts, 5% of total assets, or $250,000. If you report that you’ve been the victim of a fraudulent diversion but don’t provide a detailed explanation on Schedule O, you can count on hearing from the IRS. Describe the nature of the diversion, the dollar amounts and/or other property involved, corrective actions taken, and any other pertinent circumstances .

Charitable Donation Audits on the Rise

The IRS has renewed its focus on auditing charitable donations with inflated asset values, ranging from art to medical devices . Tax attorney Daniel Strickland noted that the agency’s audit activity is centering on how assets are being valued, not only in non-cash donations but also in energy projects that qualify for investment tax credits .

“It all comes back to issues that the IRS is identifying in valuation – maybe we’ll call it aggressive valuation,” Strickland said . This increased scrutiny follows the agency’s continued crackdown on syndicated conservation easement shelters, a tax avoidance strategy in which partnerships take a large charitable contribution deduction for donated land .

Preparing for a Nonprofit Audit

Nonprofits are facing heightened attention from the IRS, driven by data analytics and targeted campaigns . Common triggers for audits include discrepancies in Form 990 filings, high fundraising expenses, and unrelated business income that lacks proper allocation support. Additionally, complex transactions and political activities can also draw IRS attention .

Proactive Compliance Measures

Organizations should prioritize the following actions to reduce audit risk and ensure audit readiness :

1. Regular Reviews of Form 990: Ensure accuracy and consistency in filings.

2. Test Unrelated Business Income Positions: Verify proper allocation and documentation.

3. Update Compensation Policies: Use independent comparability data for adjustments.

4. Clear Gift Acceptance Policies: Maintain transparency and adherence to guidelines.

5. Document Lobbying Activities: Keep detailed records and ensure compliance with regulations.

6. Conduct Mock Audits: Identify and address potential vulnerabilities before an actual audit.

During an Audit

If your organization is selected for an audit, it’s important to :

  • Centralize Communications: Designate a single point of contact for efficiency.

  • Organize Responses to Information Document Requests (IDRs): Provide well-documented and clear responses.

  • Prepare Interview Witnesses: Ensure they are ready and informed.

  • Consider Strategic Resolution Pathways: Utilize options like Fast Track Settlement when beneficial.

New Group Exemption Rules

On January 20, 2026, the IRS released Revenue Procedure 2026-8 and began accepting new group exemption applications for the first time since mid-2020 . The new guidance keeps the framework of group exemptions but tightens who qualifies, what has to be documented, and how often central organizations must report back to the IRS .

Key Changes

Key changes in Revenue Procedure 2026-8 include :

  • Minimum size requirements: At least five subordinates to obtain a group exemption and at least one to maintain it.

  • Electronic filing: Applications must now be filed electronically on Form 8940 through Pay.gov with a user fee of $3,500.

  • Annual SGRI reporting: Most central organizations must file a Supplemental Group Ruling Information update every year, at least 30 days before the end of their tax year.

  • New definitions: Key concepts such as affiliation and “general supervision or control” are now defined.

  • Ineligible subordinates: Certain entities—including foreign organizations, private foundations, Type III supporting organizations, and organizations that have had their exempt status revoked—are now ineligible.

Transition Period

Organizations that already hold a group exemption letter have a one-year transition period with a January 2027 deadline to bring group structures into compliance .

Tax-Exempt Hospital Audits

Tax-exempt hospitals face unique compliance challenges, including meeting IRC Section 501(r) requirements, addressing IRS audits, and preparing Schedule H of Form 990 . On May 15, 2025, the Treasury Inspector General for Tax Administration issued a report titled “Vague and Outdated Guidance Creates Challenges for Tax-Exempt Hospital Oversight” in response to concerns raised by U.S. Senators questioning whether tax-exempt hospitals were indeed providing community benefits .

The IRS’ scrutiny of tax-exempt hospitals, and particularly the required 10-page Schedule H, adds additional responsibilities for accountants and auditors who assist these community-driven nonprofits .

How Nova Tax & Accounting Can Help

At Nova Tax & Accounting Services , we specialize in assisting nonprofit organizations by providing independent financial statement audits, reviews, and compliance support that promote transparency and enhance financial reporting . Our team is experienced in preparing Form 990 and handling regulatory reporting for nonprofits .

We can help your organization:

  • Prepare for IRS audits and compliance reviews

  • Navigate the new group exemption rules

  • Ensure accurate Form 990 filing

  • Strengthen internal controls and governance

  • Address unrelated business income issues

Schedule your free consultation today to discuss your organization’s audit and compliance needs.