Retention Guidelines for Your Important Documents
As we approach the final weeks of the 2023 tax filing season, most people want to put the ordeal behind them. But before banishing the experience from memory, there is one more important task to complete, and that is properly saving the supporting documents used with your annual returns. Here are some tips about what to save, what to throw away, how long to keep tax-related materials, and how best to store these important documents.
The Three-Year Minimum
As a general rule, most financial professionals recommend hanging on to documentation supporting your annual tax return for at least three years after the date you filed. For example, if you filed your 2023 tax return in April 2024, you should retain your records until, at least, April 2027. Furthermore, the IRS suggests hanging onto records that support an item of income, deduction or credit shown on your tax return. Why three years specifically? The IRS can audit your tax returns for up to three years after the tax filing deadline.
The Six-Year Rule
Did you fail to disclose all income on a tax return? If the answer is yes, then plan to hold onto important financial documentation even longer than three years. The IRS says you should keep records for 6 years if you do not report income that you should report, and it is more than 2% of the gross income shown on your return. You should retain any and all records that verify your income, deductions, or credits earned for six years.
Did You Skip Filing a Return Altogether or Did You File a Fraudulent Return?
If, for some reason, you opted to forgo filing a tax return in a given year, or you filed a fraudulent return, the IRS website recommends keeping all financial records and documents related to the year in question indefinitely.
What to Save
Aside from worrying about how long to have supporting documents and paperwork, you also need to think about what exactly must be saved. The general rule is you should keep everything that “proves” what is on your tax return. This includes such items as W-2s, proof of the purchase price of the assets on your return, proof of the losses, and business books with receipts and/or proof of payments. If you take the standard deduction, then you can throw away your donation receipts and medical receipts because you did not claim these deductions. There is one exception, however, as it relates to medical receipts. If you took a distribution from a Health Savings Account, you should retain medical receipts to prove the distribution went towards medical expenses.
Property-Related Documents
Documentation related to property ownership should also be maintained until the period of limitations expires for the year in which you dispose of the property. These records must be maintained to determine any depreciation, amortization, or depletion deduction. Such documentation is also needed to help calculate gains and losses when you sell or dispose of the property.
Examples of property documents you should retain for tax purposes include the following:
- Purchase contract and closing statement for original cost
- Purchase orders, receipts, and cancelled checks for improvements
- Closing disclosure statements
- Property tax payments
- Capital improvements receipts and invoices
- Form 1099-S Proceeds from Real Estate Transactions
Organizing / Storing / Saving Your Documents
- Electronically – While you can obviously save hard copies of your important tax-related documents, some experts suggest it’s an even better idea to store these items electronically. This is especially true for documents that are written in ink or register receipts – the ink tends to wear off over time. You can either use a scanner or a mobile device to take pictures of the documents. Store them on an external hard drive or cloud-based platform. Make sure you have clear images before destroying the originals.
- Hard Copies – If you eschew electronic document storage, then consider keeping your financial documents and tax returns in a locked file cabinet or fireproof safe. This prevents thieves from stealing sensitive personal information such as your full name, Social Security number, or banking information. A fireproof safe can protect these and other important documents, e.g. will or trust document, birth certificate, etc., in the event you experience a disaster.
- Organizing – No matter how you save and store your documents, you should also consider saving your paperwork chronologically by year.
Even When You Think It’s Safe to Toss It…
Even after the IRS statute of limitations has elapsed with regard to audits, you still might not be able to throw that documentation in the garbage bin or put it through the shredder just yet. The IRS advises that “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 purposes. For example, your insurance company or creditors may require you to keep them longer than the IRS does.”
Dispose of Important Documents Safely
While it’s important to retain things like W-2s and receipts for expenses, you do not have to hang onto everything from a given year. Generally, you can get rid of your pay stubs after you have double-checked them against your W’2s to ensure that they are equal. Likewise, ATM and deposit receipts can be shredded after you have double-checked them with your monthly bank statements. Finally, there is no need to hang onto bills after you have paid them, except when they support a tax deduction or credit that you received.
As far as document disposal, any paperwork and financial documents with personal information on them should be shredded and not just discarded in a waste paper basket. If you do not own a shredder or have access to one, many cities and towns have document shredding events throughout the year. For example, the Delaware Solid Waste Authority (DSWA) has monthly paper shredding events throughout the state. Visit https://dswa.com/programs/paper-shredding/ for more information.
If you still have questions about what documents you should hold onto and for how long, consult with your accountant or financial advisor. You can also review the IRS retention guidelines at How long should I keep records? | Internal Revenue Service (irs.gov).