In August 2006, Audi announced the second generation S3. Like its predecessor, although badged a "quattro" model, the S3 does not employ a Torsen centre differential (as in other common quattro models), but instead uses the Swedish Haldex Traction system in its on-demand four-wheel drive transmission, due to the transverse engine layout.

 

It is powered by a modified and uprated Volkswagen Group-sourced 2.0-litre turbocharged FSI petrol engine, with a maximum output of 265 PS. As with all Audi S models, the design was done in-house by quattro GmbH. The engine features uprated high-performance pistons, revised boost/fuel mapping, increased turbocharger size (KKK K04) and larger intercooler. The most powerful form of this engine, and quattro four-wheel drive, makes for a 0–100 km/h time of 5.5 s, and an electronically limited top speed of 250 km/h.

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Audi introduced a number of changes to the S3 in 2008. These included revised nose and tail styling, with a modified grille, the new "trademark" daytime running lights and an option of six-speed S-Tronic dual clutch transmission. In addition, an S3 Sportback model was added to the range.