Document retention needs a system whether paper or digital. Storing financial records electronically is one of the only ways keeping them indefinitely seems realistic. But do you have to? Large corporations may have limitless storage capacity on servers and in the cloud, but what about individuals and small businesses that do not? Some folks still seem to be more comfortable with paper, often for personal reasons.
The length of time you should keep a document depends on the action, expense, or event which the document records. Generally, keep records that support an item of income, a deduction or a credit shown on your tax return, until the period of limitations for that tax return runs out (see below). The IRS is one of the few courts where failure to produce proof of your claims results in the assumption that you are guilty of tax fraud. So save all the financial documents you used to create your taxes to defend yourself in an audit. Create a digital file wherever possible.
Always keep a paper copy or digital receipt of any tax-relevant financial exchange. If you can’t acquire original documents in an electronic format, scan the files and archive them electronically. Don’t count on your broker, custodian, attorney or accountant to hold on to your items indefinitely. Note the following:
- The IRS considers bank or credit card records to be insufficient documentation, so only keep statements until you reconcile your account.
- When purchases are a business or tax-deductible expense, record the expense and why it justifies a deduction, then store this information along with the scanned or saved receipt.
- Keep brokerage statements indefinitely for taxable accounts. You are responsible for reporting the cost basis of any security you sell to calculate the capital gains tax. Without knowing the cost basis, the IRS could argue that the entire value of the investment be treated as gain. Many custodians keep several years of electronic copies of brokerage statements available, and are required to send any known cost basis electronically when you transfer securities. If that is the case, you probably no longer need to keep brokerage statements.
- Keep partnership documents, contracts, and commission or royalty structures forever. Also property records, deeds and titles, especially those relating to intellectual property. It also includes any transfers of value for estate planning purposes.
The period of limitations is the period of time in which you can amend your tax return to claim a credit or refund, or the IRS can assess additional tax. The information below reflects the periods of limitation that apply to income tax returns. Unless otherwise stated, the years refer to the period after the return was filed. Returns filed before the due date are treated as filed on the due date.
Even the IRS advises taxpayers to keep copies of their filed tax returns. They help in preparing future tax returns and making computations if an amended return needs to be filed.
Period of Limitations that apply to income tax returns:
- Keep records for 3 years if situations (4) and (5) below do not apply to you.
- Keep records for 3 years from the date you filed your original return, or 2 years from the date you paid the tax, whichever is later, if you file a claim for credit or refund after you file your return.
- Keep records for 7 years if you file a claim for a loss from worthless securities or bad debt deduction.
- Keep records for 6 years if you did not report income that you should have, and it is more than 25% of the gross income shown on your return.
- Keep records indefinitely if you did not file a return.
- Keep employment tax records for at least 4 years after the date that the tax becomes due or is paid, whichever is later.
Is the activity ongoing?
If you have active contracts, loans or other financial obligations and contributions that are active, you want to keep those records indefinitely. Think of retirement plan contributions, ongoing debt repayments, etc. Active or open claims against insurance policies, or medical bills, etc., keep for at least 3 years.
Do you have employees?
The IRS suggests that you retain all employment tax records for a minimum of 4 years after the date those taxes were due or were paid, whichever is later. These employment tax records include the employer identification number, amounts and dates of wage, annuity and pension payments and tax deposits, the names, addresses, social security numbers, dates of employment and occupations of employees and records of allocated tips. Think about keeping records of employee benefits, pension payments or profit sharing plans permanently.
Excluding employment tax records, files relating to current employees should be retained while they are working for you and at least 7 years after a current or former employee has left or been terminated. If an employee has suffered an accident on the job, consider retaining those records for at least 7 years after that matter was finally resolved or up to 10 years after which any workers compensation benefits were paid. If an employee lodged a discrimination claim against your business, consider retaining those records for at least 4 years after the case is finally concluded.
Are the records connected to property?
Generally, keep records relating to property until the period of limitations expires for the year in which you dispose of the property. You must keep these records to figure depreciation, amortization, or a depletion deduction, and to figure the gain or loss when you sell or dispose of the property. If you received property in a nontaxable exchange, your basis in that property is the same as the basis of the property you gave up, increased by any money you paid. You must keep the records on the old property, as well as on the new property, until the period of limitations expires for the year in which you dispose of the new property. If you own a residence, hold on to home improvement records and property tax records.
How about business ledgers?
Businesses should keep their journal entries, profit and loss statements, financial statements, check registers and general business ledgers permanently. This is generally not a problem with online software and files regularly backed up in the cloud. Be aware the IRS may request your company QuickBooks file as a part of an audit. Aside from supportive tax records, other documents such as accounts payable/receivable ledgers, invoices and expense reports should be retained for a minimum of 7 years.
What should I do with my records and key documents for nontax purposes?
When your records are no longer needed for tax purposes, do not discard them until you check to see if you have to keep them longer for other reasons. For example, your insurance company or creditors may require you to keep them longer than the IRS will. Major business documents like annual reports, corporate by-laws and amendments, Board of Director information, annual meeting minutes and business formation documents, should also be retained permanently.
In Summary: Tax returns and supporting documentation must be kept at least seven years. The IRS can audit your return for up to three years from your filing date, but if the IRS suspects you underreported your gross income by 25% or more, they have up to six years to challenge your return. If the IRS suspects you filed a fraudulent return, no statute of limitations applies.
Contact Us: Managing digital files is similar to managing paper files. Companies must have standards for creating, filing, and eventually purging the file. There may be times when you must suspend your usual record disposal plans, such as when litigation is likely or a business matter is pending. You may wish to consult with your Fuoco tax professional to guide you or your particular business on its record keeping and disposal policies. Whether you decide to keep both physical and digital files of your records depends on a number of variables, but any storage plan should include a backup. To avoid identity theft and to protect sensitive business information, be sure to properly delete or shred financial records. Call us with questions toll free: 855-534-2727.
