Should I Keep My 20 Year Old Tax Returns?
Make informed decisions about keeping tax records. Understand the factors influencing retention, what to save, and best practices for secure financial documentation.
Understanding how long to retain tax returns and financial documents is important for individuals. Keeping accurate records safeguards against questions about past tax filings. The appropriate retention period depends on various factors related to your financial activities and specific tax situations.
Determining Retention Periods
The general rule for retaining tax records is three years from the date you filed your original return or the due date, whichever is later. This three-year period is the standard statute of limitations during which the Internal Revenue Service (IRS) can assess additional tax, as outlined in 26 U.S.C. § 6501.
Exceptions can extend this retention period. If you substantially underreport your gross income by more than 25% on your return, the statute of limitations extends to six years.
For fraudulent returns or failure to file, there is no statute of limitations. A seven-year retention period applies to claims for a loss from worthless securities or a deduction for a bad debt, as specified in 26 U.S.C. § 6511.
Records related to property, such as a home or investments, should be kept to determine the basis for calculating capital gains or losses upon sale. Retain these records for at least three years after the tax return for the year of disposition is filed. Business employment tax records may also have extended retention guidelines.
State tax laws can differ from federal regulations, with some states requiring records for four to seven years or more. Always check your state’s specific requirements. Generally, keeping most tax records for at least seven years is recommended.
Essential Supporting Documents
Beyond the tax return, various supporting documents are important for substantiating the information reported. These include income statements such as W-2 forms from employers, 1099 forms for various types of income (e.g., interest, dividends, independent contractor payments), and K-1 forms from partnerships, S corporations, or trusts. These documents verify the income figures reported on your return.
Receipts for deductions and credits claimed are also necessary. This includes records for medical expenses, charitable contributions, business expenses if self-employed, and educational expenses. Bank statements, brokerage statements, and canceled checks provide a paper trail for transactions and can help verify income and expenditures. Records of retirement contributions, such as those made to an IRA or 401(k), are important for tracking contributions and basis.
Documents related to the purchase, sale, or improvement of assets like real estate, stocks, or other investments are important. These records help establish the cost basis of the asset, which is necessary to calculate any taxable gain or deductible loss upon its sale. Maintaining these documents ensures you can accurately report your financial activities and support your tax claims if ever questioned.
Implications of Missing Records
Failing to retain necessary tax returns and supporting documents can lead to serious consequences if your tax return is selected for review. Without proper documentation, deductions or credits claimed on your tax return may be disallowed. This can result in an increase in your overall tax liability, as the tax authority may determine that you owe more tax than originally reported.
If an audit results in a higher tax due, you may face additional taxes, interest charges, and various penalties. These penalties can include accuracy-related penalties for underpayment of tax due to negligence or substantial understatement, as well as penalties for failure to pay or failure to file. The burden of proof generally rests with the taxpayer to substantiate all claims made on a tax return.
Missing records can also delay or prevent the processing of a refund if the tax authority requires specific documentation to verify your claim. A lack of comprehensive tax history can also complicate future financial planning. This includes applying for loans, as lenders often require proof of income and tax history, or managing future tax obligations.
Secure Record Storage
Once you have identified which tax records to keep and for how long, establishing a secure and accessible storage system is important. For physical paper records, a fireproof safe or a locked cabinet in a dry environment can protect against damage from fire, water, or theft. Organizing these documents by tax year can make retrieval much simpler if needed.
Digital storage offers convenience and can provide additional layers of security. Scanning paper documents to create digital copies is a practical step. These digital files should then be stored securely, ideally using a combination of methods. Encrypted external hard drives provide a physical backup, while reputable cloud storage services offer accessibility from multiple devices and off-site protection.
When using digital storage, strong, unique passwords and two-factor authentication are important to protect your accounts from unauthorized access. Maintaining multiple backups for digital files, such as on an external drive and in the cloud, helps ensure data recovery in case of hardware failure or accidental deletion. Organizing digital files into clearly labeled folders by tax year or document type also helps with efficient retrieval. Taking these steps helps safeguard your personal financial information from potential identity theft. It also ensures your records are available when needed.