IRC Section 6001’s Requirement to Keep Tax Records

Every taxpayer in the United States has a duty to maintain records that substantiate the figures on their tax returns. This obligation allows both the individual taxpayer and the Internal Revenue Service (IRS) to verify that the correct amount of tax is being assessed and paid. Without this foundation of accessible and accurate documentation, the integrity of the tax system would be compromised. This requirement ensures that every reported item of income, deduction, and credit can be supported by clear evidence.

Understanding Your Tax Record-Keeping Obligations

The legal basis for maintaining tax records is established in Internal Revenue Code (IRC) Section 6001. This rule requires every person liable for any tax to keep records sufficient to show whether or not they are liable for that tax. The IRS does not mandate a specific method of record-keeping; taxpayers can choose any system that clearly and accurately reflects their financial activities. The responsibility, or ‘burden of proof,’ falls on the taxpayer to substantiate all entries on a tax return.

Records of Income

To accurately report all sources of income, taxpayers must retain a variety of documents. These include:

• Forms W-2 received from employers, which detail wages and tax withholding.
• All Forms 1099 for non-employee compensation, investment returns, and other miscellaneous income, such as the 1099-NEC, 1099-MISC, 1099-INT, and 1099-DIV.
• Supporting documentation like bank statements showing deposits.
• Business invoices and records of cash receipts to provide a complete picture of gross income.

Records of Expenses and Deductions

Records are required to support any deductions or credits claimed, which can lower your overall tax liability. These records must prove that an expense was paid and that it qualifies as a deductible expense. Key documents include canceled checks, credit card statements, and itemized receipts that show the date, vendor, and a description of the item or service purchased. For business use of a vehicle, a contemporaneous mileage log detailing the date, purpose, and mileage of each trip is required. For non-cash charitable contributions, a written acknowledgment from the charity is necessary for any single contribution of $250 or more.

Records for Property and Assets

When you own property, such as a home, rental property, or investments, you must keep records to determine your basis. Basis is the cost of the property and is used to calculate gain or loss when the asset is sold. Records to establish basis include closing statements from the purchase and receipts for any significant improvements made to the property. These records, along with documentation of any depreciation taken, must be kept for as long as you own the property to ensure accurate tax calculation upon its sale.

Acceptable Record Formats

The IRS permits taxpayers to keep records in either paper or electronic format. According to Revenue Procedure 97-22, an electronic storage system is acceptable if it ensures that records are legible, can be securely stored, and can be retrieved and reproduced in a readable paper format. This means you can scan your paper documents and store them digitally, provided the system has controls to ensure the integrity of the records. Once records are converted to an acceptable electronic format, the original paper documents may be destroyed.

How Long You Must Keep Tax Records

The length of time you must retain your tax records is determined by the ‘period of limitations.’ This is the timeframe during which you can amend a return to claim a refund or the IRS can assess additional tax. The start of this period is the later of the date you filed your return or the due date of the return. Keeping records for the appropriate duration is a matter of compliance.

The General Three-Year Rule

The general rule is to keep tax records for three years from the date the return was filed or the return’s due date, whichever is later. For example, if you filed your 2023 tax return on March 15, 2024, the three-year period would begin on the April 15, 2024, due date. Therefore, you should keep the records for that return at least until April 15, 2027. This three-year window covers the most common period for an IRS audit.

The Six-Year Rule for Substantial Underreporting

The record retention period extends to six years if you fail to report income that you should have reported, and this amount is more than 25% of the gross income shown on your return. For instance, if your return reported $80,000 in gross income but you failed to report an additional $25,000, the IRS would have six years to assess the additional tax. This extended statute of limitations underscores the importance of accurately reporting all income.

Indefinite Retention for Certain Records

In some circumstances, records must be kept indefinitely. This applies if you file a fraudulent return or if you fail to file a return at all. In these cases, there is no statute of limitations, meaning the IRS can assess tax at any time. Additionally, records related to property ownership should be kept until the period of limitations expires for the year in which you sell or otherwise dispose of the property.

Consequences of Failing to Keep Records

Failing to maintain adequate records can lead to significant financial and administrative consequences. The IRS is empowered to act when a taxpayer’s records are insufficient to support the figures they have reported.

Without sufficient records, the IRS can disallow any deductions or credits you have claimed. If you cannot produce these records during an examination, the IRS will remove the deduction or credit, which will increase your taxable income and result in a higher tax bill.

In situations where records are missing or inadequate, the IRS is authorized to reconstruct your income using indirect methods. One common approach is the bank deposits method, where the IRS totals all deposits into your bank accounts and treats them as taxable income unless you can prove otherwise.

Beyond the additional tax owed, failing to keep proper records can lead to penalties. The accuracy-related penalty under IRC Section 6662 is frequently applied in these cases. This penalty is 20% of the underpayment of tax that results from negligence or disregard of the rules, and the failure to maintain adequate records is defined as a form of negligence.