If you’re like most people, it's easy to get in the habit of hoarding tax documents with the rationale that maybe, someday, you might need them again. But if you're looking to get your financial house in order, be smart about what you keep - not all of it needs to follow you to the grave. This is the perfect time to do some financial spring cleaning.
In most cases, you should plan on keeping tax returns along with any supporting documents for a period of at least three years following the date you filed or the due date of your tax return, whichever is later.
Supporting documents include things like W-2s, 1099s, donation receipts from charities, etc. Keeping tax returns for the three-year time period is tied to the IRS statute of limitations. Under the statute, you generally have the later of three years from the date you filed the original return or two years from the date you paid the tax, to amend your taxes and claim a refund. Likewise, the IRS generally has only three years from the filing date or due date of the return (whichever is later) to audit you and assess any additional tax if you did not accurately report.
However, there are a few exceptions to the 3-year rule of thumb:
- If you claim a loss from worthless securities or the bad debt deduction, you need to keep your tax documents for 7 years.
- If you omitted more than 25% of your gross income from your return, the IRS has six years instead of three to assess an additional tax. I don’t recommend this one.
- If you file a fraudulent return or don’t file one at all, the statute of limitations never expires. I don’t recommend this one either.
Wait...Before you start shredding things!
Make sure your Social Security earnings record agrees with your W-2’s. If their records are wrong, you may not receive all the retirement benefits you’re entitled to.
Once you’ve done so, review the earnings chart carefully using your own records to make sure their information is correct and that they’ve recorded each year you worked. You’re the only person who can look at the earnings chart and know whether it is complete and correct.
Note: There’s a limit on the amount of earnings on which you pay Social Security taxes each year. The limit increases annually. Earnings above the limit will not appear on your earnings chart as Social Security earnings.
If you purchased an investment such as a mutual fund or stock in a taxable account prior to 2012, most likely your "basis" (which is generally the price you paid for the investment including any reinvestments of dividends and capital gains) was not reported because the holding institution wasn't required to do so. Given this, I recommend keeping all trade or purchase confirmations for investments made prior to 2012 to help determine the taxable gain or loss when you sell and file your taxes.
Lastly, I recommend storing hard copies of tax documents in a fire-proof safe or bank safe deposit box. If you prefer, you can scan your documents and keep them in the cloud on a service like Dropbox. The IRS does accept digital copies of documents as long as they are legible. After all, no one wants their home to look like an episode of “Hoarders”. This method takes up far less space and is easier to organize than a stack of papers.
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About the Author:
Desmond Henry is a fee-only CERTIFIED FINANCIAL PLANNER™ professional and founder of Afflora Financial Life Planning in Topeka, Kansas. He helps the retiring/retired plan their finances and invest their money. CLICK HERE to learn more.