Read This before Tossing Old Tax Records!

Article Highlights:

  • Discarding old tax records

  • Statute of limitations

  • Basis substantiation

Now that your taxes are complete and filed for the year, you are probably wondering what old tax records can be discarded. If you are like most taxpayers, you have records from years ago that you are afraid to throw away. To determine how to proceed, it is helpful to understand why the records needed to be kept in the first place.

Generally, we keep “tax” records for two basic reasons: (1) in case the IRS or a state agency decides to question the information reported on our tax returns, and (2) to keep track of the tax basis of our capital assets so that the tax liability can be minimized when we actually dispose of the assets.

With certain exceptions, the statute for assessing additional tax is three years from the return due date or the date the return was filed, whichever is later. However, the statute of limitations for many states is one year longer than the federal statute of limitations. In addition to lengthened state statutes clouding the recordkeeping issue, the federal three-year assessment period is extended to six years if a taxpayer omits an amount that is more than 25% of the gross income reported on a tax return. In addition, of course, the statute doesn’t begin running until a return has been filed. There is no limit on the assessment period where a taxpayer files a false or fraudulent return in order to evade tax.

If an exception does not apply to you, for federal purposes, most of your tax records that are more than three years old can probably be discarded. If you live in a state with a longer statute, then add a year or so to that number.

Example: Sue filed her 2021 tax return before the due date of April 18, 2022. She will be able to safely dispose of most of her records after April 18, 2025. On the other hand, Don files his 2021 return on June 2, 2022. He needs to keep his records at least until June 2, 2025. In both cases, the taxpayers should keep their records a year or two longer if their states have a statute of limitations longer than three years. Note: If a due date falls on a Saturday, Sunday or holiday, the due date becomes the next business day.

The big problem! The problem with discarding records indiscriminately for a particular year once the statute of limitations has expired is that many taxpayers combine their normal tax records and the records needed to substantiate the basis of capital assets such as stocks, bonds, and real estate. They need to be separated, and the basis records should not be discarded before the statute expires for the year in which the asset is disposed. Thus, it makes more sense to keep those records separated by asset. The following are examples of records that fall into this category:

  • Stock acquisition data - If you own stock in a corporation, keep the purchase records for at least four years after the year the stock is sold. This data will be needed in order to prove the amount of profit (or loss) you had on the sale. And if the result of those sales, and sales of other capital assets, is a loss that you’ll be carrying forward to future tax returns – loss exceeds $3,000 ($1,500 if filing as married separate) – keep the purchase and sale records for four years after filing the return on which the last of the loss is used up.

  • Stock and mutual fund statements - Many taxpayers use the dividends that they receive from a stock or mutual fund to buy more shares of the same stock or fund. The reinvested amounts add to the basis in the property and reduce gains when the stock is finally sold. Keep statements for at least four years after the final sale.

  • Tangible property purchase and improvement records - Keep records of home, investment, rental property or business property acquisitions, AND related capital improvements for at least four years after the underlying property is sold.

In addition, if you own a business that has a loss that creates a net operating loss (NOL) that you’ll be carrying forward to deduct in future years, you should keep all of the business’s records that substantiate income and expenses from the loss year for at least four years after filing the return on which the NOL deduction is used up.

Have questions about whether or not to retain certain records? Give this office a call before tossing out those documents. It is better to be sure before discarding something that might be needed down the road.

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