Recordkeeping for Individual Taxpayers

May 20, 2023 | Tax Compliance

Recordkeeping for Individual Taxpayers

Every month I am contacted by a new client who has a tax issue from the 1990’s, or early or late 2000’s. That makes having a tax records retention policy a very important issue since the tax issue can be very old.  You may wonder if it is even possible to have a tax issue going back that far in time. The answer is Yes. I hate to say this since if you did not a tax return, the IRS will not start the statute of limitations on that year, and it’s still an “open year” where they can assess taxes against you. The other scenario of when old tax debts are still relevant is where the State, such as New York, has 20 years to collect the tax. Therefore, they are chasing people for tax debts for these years since the twenty years may not have expired yet (since there is almost always a delay after the end of a tax year and when the tax return is audited) so this tax debt is still on the books.

Tax Records

Therefore, it is important to maintain good tax records, and to maintain them forever. This may seem harsh and a painful thought, but its better to keep good tax records than to pay a tax bill that is inflated greatly with interest if you made a mistake and did not file a tax return when you thought it was filed (which is easy to happen with e-filed tax returns) and need your tax records to file a new tax return to show you don’t owe them money.

This is not as bad as it seems since other permanent records (Deeds, Wills) need to be kept forever. Often, it is less paperwork than you think if you get rid of the extra paperwork and envelopes that come along with the tax records and just save the actual return and back-up items. I am sure your still in shock and do not like what you hear, but this is worth it.

Tax Records Retention Issues

In know your still in shock. So why so long? I will explain this in a different way. When you file a tax return a number of things can happen. The IRS has three years to audit you and assess additional taxes against you, in most cases. However, in some cases they can go back six years if your income is significantly understated. A disaster strikes when you do not file and then the IRS has forever to create a tax bill.

Therefore, when you file your tax returns, be extra careful make sure you receive confirmation that the tax return has been filed and processed. In some cases, you may file, and the tax return is incorrect, and the IRS rejects the filing. In this case your treated as not filing. As an example, this problem often happens when you take a dependent who was already taken on another person’s income tax return. A common mistake. Save your e-file and mailing receipts with your records. You will be happy you did since I have seen where the IRS misplaces a tax return or processes a tax return with another person’s tax return and does not process yours. You need tax records to fix this issue.

Also, one of the best ways to be able to prove your case in a criminal or civil tax audit is through your financial records. Unfortunately, most taxpayers are unaware that they have a responsibility to keep these documents for a specific time period and as IRS & NYS tax attorney that is where we can help.

The statute of limitations for how long a taxpayer must retain their tax related documents varies by state government, and the federal government has their own set limit. Certain states such as Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming do not have any income taxes. The other states vary in how long documents must be retained.

The minimum document retention guidelines can change based upon the circumstances. They are extended if the taxpayer files an amended return or if the taxpayer is self-employed, because they will need to retain their individual income tax return for a longer period of time for their business records. Taxpayers will also need to retain documentation for longer if there is potential of a tax crime or requested by IRS. If a taxpayer omits income from their tax return, files a fraudulent return, or does not pay income taxes owed, they may face a criminal investigation. If a taxpayer does not file, does not pay tax debts, or falsifies documents, the state tax department and/or the IRS will want to see records proving the information on the return for a long period of time. For example, in New York State, the minimum document retention guideline is three years. However, if the taxpayer’s return is being questioned under civil litigation, they may be asked to produce tax documents for longr. In addition, if the New York State Department of Taxation and Finance believes that the tax returns filed are false or fraudulent, the taxpayer might be required to provide tax documents for even more time. Even if a taxpayer does not file their returns on purpose, they should still try to keep any tax records or documents for safekeeping. If the taxpayer keeps their tax documents, it is easier to prepare returns without having to go to the IRS NYC or State Tax Department.

That why it’s easier to just keep the records. Frankly, who has time to stay on top of this and get rid of records as they get older.

As a tax attorney, once we have a Power of Attorney document signed, which gives us written authorization for representation, we can request from IRS office NYC the IRS Wage and Income Statements for the taxpayer for the previous ten years if the client did not keep their records. We can also contact the New York State Department of Taxation and Finance and request the New York State Taxes withheld so we can prepare an accurate tax return, or defend your case. However, the IRS only gets W2, 1099, and those types of tax forms, so if you have a business, they may not have all you records to reconstruct your business income and expenses.

We often find when a client has not filed in many years that the most important to first address is to gather the tax data needed to prepare the income tax returns. Therefore, tax information needed to prepare old tax returns is the first step to resolve the issue. If the client was an employee during the time period, we can get their W-2 income tax data from the IRS. Typically, then the only items missing would be itemized tax deductions and information about tax dependents. We would also need their spouses data if we are filing joint tax returns. If the client was self employed, the process is much more involved. We have to calculate the business income and expenses related to the self employment income. This often means trying to obtain credit card statements and bank statements to help determine the business expenses, and then start gathering the receipts to back up the expenses. For the income earned, we can use the bank statements and review the deposits made. With this information, and the information above, we would then be able to prepare the income tax returns.

What Documents Should You Keep for Your Taxes?

As the world shifts to digital from paper, taxpayers are finding that their pay stubs, airline tickets, and entertainment tickets such as sports events and concerts are being delivered electronically. This shift from paper delivery to electronic delivery is making it more difficult for taxpayers to decide what they should discard, what they should hold onto, and the best methods.

Informal studies have been conducted, and most large banks and financial-service firms have reported that many clients are still choosing to receive their statements by mail. Even with the convenience of going paperless and receiving statements online, paper statements are still popular.

Paper statements can be beneficial, especially for keeping track of financial records. The main reason why financial statements should be saved is for filing income taxes. Financial statements are the easiest way to back up numbers reported on filed tax returns. The Internal Revenue Service will expect that taxpayers will keep records of income, expenses, and deductions. This can include retirement contributions, charitable contributions, mortgage interest statements, student loan payments, and more. The IRS will not require you to keep your cellphone records or utility bills, unless you deduct them or need a payment plan and then only the recent records are required.

For the records the IRS does expect you to hold onto, it is required by law that you keep the records for three years after filing, in case you are audited. As an experienced New York Tax Lawyer, it is strongly suggested that you hold onto your tax documents and financial records for much longer than the necessary three years, because they are the best protection in case of a tax audit. The statute of limitations for taxpayers who have underreported income is six years; however, if fraud is believed to have occurred, there is no time limit.

For taxpayers who choose digital records, they should put in place a backup system. Documents saved on a computer or a flash drive should be backed up on an external hard drive or in the cloud to be certain that they will not get lost or destroyed.

Any records deemed unnecessary by the taxpayer should be shred. This will help avoid identity theft, which is more and more common as there is a shift to digit.

Keeping complete and accurate records is the best defense to any IRS or State audit. In my experience as an attorney with extensive tax law training, having the ability to prove the numbers on your return are accurate makes an audit easier to work with and the best clients are the ones who keep adequate records.

Attorney Timothy Hart

Timothy S Hart, the founding partner of the tax law firm of Timothy S. Hart Law Group, P.C. is both a New York Tax Lawyer & Certified Public Accountant. His area of expertise includes innovative solutions to solve your Internal Revenue Service and New York State tax problems, including tax settlements through the Federal and New York State offer in compromise programs, filing unfiled tax returns, voluntary disclosures, tax audits, and criminal investigations. [ Attorney Bio ]