What you need to know
A lot of folks look like they’re auditioning for the show Hoarders when it comes to how long to keep tax returns. Who can blame them? The IRS isn’t exactly the most popular show in town.
But in reality, how long should you keep tax returns? Do you need to cling to every piece of paper from now until the end of time? Or, is it ok to do an all-out purge? This article will explore everything you need to know.
How long to keep tax returns
What the IRS Says
At a minimum the IRS says you should keep tax returns and any supporting documents for at least three years. For example, this year (2020) you should have everything going back to the 2017 tax year.
Why 3 years? That’s how long the IRS generally has to audit you and charge any extra tax. It’s also how long you have to correct an old tax return if you missed all or part of a refund.
There are two types of records: 1) the actual tax return itself; and 2) source documents (W-2s, 1099s, receipts, etc.). Here are examples of what records to keep if you own these common types of property (click each section to expand):
Keep records that establish cost basis, depreciation, and amortization for at least three years after you sell the property. You should have separate files for each property if you own multiple properties. If you’ve been doing 1031 exchanges keep all records dating back to the original property you started with.
Keep statements detailing purchases (cost basis) in taxable brokerage accounts. As of 2011 brokers must track cost basis for you. This is not the case for an investment bought before 2011, so hang on to records for pre-2011 investments. Most investment firms let you download statements online. You only need to do this for taxable accounts, not IRAs or 401(k)s. You should keep these records for at least 3 years after you sell that security.
Withdrawals from certain types of retirement accounts might be tax-free or partially tax-free. This would be for Roth IRAs, non-deductible IRAs, or post-tax 401(k)s. Keep records of how much you contributed to these accounts in case the IRS ever has questions. Keep these records at least 3 years after you liquidate the account.
...but there are some exceptions
Don’t assume you can run all your tax documents through the shredder as soon as you hit the 3-year mark.
The IRS has outlined a few scenarios in which you should hold on to documents much longer (or forever). Here they are:
What if you forget to include some of your income on your tax return one year? The IRS actually has up to 6 years to audit you if that missing income is more than 25% of your total income that year. For example, your total income is $75,000 but on your tax return you accidentally say $50,000. Leaving off $25,000 means you underreported income by 33%.
Those who are self-employed, freelance, or independent contractors need to pay attention here. Why? These folks are likely to generate income from lots of different sources. It’s easy to see a scenario where one or a few 1099s fall through the cracks.
So if you’re self-employed or have a side hustle keep your 1099s on file for at least 6 years.
Maintain records for worthless security or bad debt write-offs for at least 7 years.
The IRS recommends you hold onto records indefinitely (forever) for any year you didn’t have to file a tax return. Why? To have supporting evidence on-hand if the IRS ever wants to double-check that you actually didn’t have to.
The IRS also advises you keep records indefinitely if you filed a fraudulent return. There is no time limit for fraud. The IRS can go back an unlimited number of years if you’re suspected of tax fraud (called tax evasion).
How long do you need to keep tax returns?
The above recommendations are straight from the IRS’s guidelines. However, there are times when you should hold records even longer than the bare bones minimum. Let’s explore two reasons why:
First, the IRS has the power to look back at least 6 years if you underreport your income. But, chances are you’re not going to realize you underreported your income. Consider holding on to all records for at least 6 years for this reason.
Second, consider the format of your documents. Are they digital or hard copies? Store digital copies for the long haul. There’s hardly any downside to keeping an ongoing electronic file. With hardcopies, separate the tax return (Form 1040 + supporting schedules) from the backup (W-2s, 1099s, receipts, etc.). Keep the tax return indefinitely and purge the backup documents. The 1040s are important because a third party such as a bank or insurance company may need to review them one day. Depending on your level of zeal you could go paperless by scanning them into your computer.
The Bottom Line
So how long do you need to keep tax returns? The answer is somewhere between 3 years and forever. Ultimately, it depends on what you’re dealing with and the format of the documents. Consider holding on to all your records for at least six years minimum by default. If they’re digital, save them indefinitely – you never know when you might need them.
There is a fine line between meticulous record-keeping and hoarding. Bottom line, it’s better to be safe than sorry when it comes to how long you should keep tax records!
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