It's that time of year again…
No sooner do you finish nursing off your New Year's hangover than it's time to start thinking about filing your taxes.
But whether you're an early bird who likes to get it all done right away…
Or if you're like me and tend to put it off till the last minute in April…
We need to have a chat about how long to keep your tax and investing docs.
How Long Should I Keep My Docs?
There are several kinds of financial documents that you need to hold onto for when you file your taxes. And definitely don't pop them in the shredder on April 16! Heaven forbid you get audited, but if you do, you'll need to supply the IRS with the requested documentation.
Yuck. We get it — you don't want to feel like a hoarder with stacks of papers accumulating. Plus, all of the information is online anyway, right?
Well, the only way you can be totally sure that you have the documents you need when you need them is to have actual physical copies in your possession.
So here's what not to throw out… and for how long you should hang onto it.
Income Tax Returns
Everybody seems to have a different opinion about how long you should keep your income tax return docs. Some sources say three years — which is the maximum number of years the IRS has for auditing your tax returns under general circumstances.
But most CPAs and tax attorneys will tell you that you should keep your tax returns for at least seven years. That's pretty sound advice. The IRS can reach back six years if they determine your income has been underreported by more than 25%. Even if you didn’t, you have to be ready in case the IRS thinks you did.
However, if you want to be really, really safe, we suggest that you keep your income tax returns forever. There's no statute of limitations on fraud, and if the IRS determines a previous year’s tax return may have been fraudulent, they can reach back any number of years.
In the event of an audit, your income tax returns will be your best defense. This is particularly true of supporting documents, since they are the source of the information included in your tax returns.
Most brokerage firms supply pretty-looking year-end summary statements. Typically, they contain more detail than you'll ever need. But hang onto them until the end of the current year, when your annual statement arrives.
When that happens, first check to make sure all the information in it matches what you got in your monthly or quarterly statements. If it's all good, you can go ahead and destroy the short-term statements.
As for your annual statements, keep them with your income tax records. They'll act as source information for the transactions that are on your income tax return.
What does this mean? You'll have to keep these statements for as long as you hang onto your income tax returns.
Retirement Account Statements
Here, we're going to give you generally similar advice to what we'd give for brokerage statements (with a few changes).
With monthly or quarterly retirement account statements, you need to hold them only until you receive the annual statement. And as long as the annual statement agrees with the interim statements, you can feel free to shred the interim statements.
However, since retirement accounts are cumulative in nature, you should keep any annual statements for as long as you have the accounts open or at least until you retire.
One exception is statements confirming non–tax-deductible contributions to your IRA accounts. You should keep those forever, since a problem will typically occur only when you withdraw the money many years later.
Now that most banking is done online, it’s questionable whether or not you even need to retain bank statements anymore. Generally speaking however, you should retain statements and anything to do with your income taxes. This would include tax payments made or tax-deductible expenses.
However, if you're self-employed, things get a bit more complicated. Bank statements can be part of the source documentation that supports the income statements you use as the basis for the preparation of your income tax returns. You should keep these for as long as you retain the income tax returns they support. As unpleasant as it may be, think of them as preparation for a future audit.
As long as you have reconciled each month’s statement and are in agreement with the charges and payments made, you can usually discard these after one year. But if you make substantial use of credit cards to run your business, you might want to do otherwise.
If the credit card charges are business related, our advice is similar to what it is for bank statements. Since the credit cards have probably been used primarily to pay for purchases, travel and other business expenses, you should keep the statements for as long as you keep the related income tax returns.
If you have any documents that are related to either the payoff of debt or the settlement of a disputed charge, you should plan on keeping these forever. Though it may sound cumbersome, these will be your only defense in the event a creditor comes out insisting you still owe them money even after the debt is paid.
This is not an unusual situation, and it shows up frequently on credit reports. Not all companies are efficient when it comes to recording paid debts, especially if the accounts were delinquent at some point. Many debt collectors in particular accept money in payment of an open obligation but fail to report it as closed.
You will need your original documents supporting the payoff of the obligation in order to finally close out the account with the creditor and to clear it off your credit report. Credit reporting agencies will believe the creditor unless you have written evidence to prove them wrong.
Should such an error show up in your credit report, you can fix the problem in a matter of hours — if you have documents showing you paid the debt in the first place. If you don’t, getting the matter settled could take weeks or months and could even require you repay a debt you've already paid.
It's important to keep these tax and investment documents in a safe and secure place where you can easily access them. You want to be able to prove your transactions or refer to them at anytime.
Want to find out how you can save on your taxes this year?
Check out Cofield's Concepts, an educational site from financial advisor Carter Cofield. In his tax course, you'll learn everything you need to know about how to take advantage of deductions and how taxes on investments work.
Further Reading: Our Cofield's Concepts review