Generally, the IRS does not require any records to be kept, provided the taxpayer can truthfully certify on their income tax returns that the information provided is full, accurate, and complete to the best of their knowledge. This comes as a surprise for many people. From a pragmatic standpoint, it is good policy for either an individual or a business to keep complete and functionally useful records.
Why is it Good Policy to Keep Records?
Keeping records will make the process of filling out income tax returns and relevant schedules quick and easy when tax time rolls around. Further, complete records will assist the taxpayer in ancillary matters such as keeping track of one’s business performance or personal budget. Finally (and most importantly), the IRS places the burden of proving facts provided on an income tax return on the taxpayer. Keeping records (and being able to easily find evidence to prove the records) may come in handy if the taxpayer is audited.
What Records Should You Keep?
Generally speaking, the easiest and most functional records will allow the taxpayer to (1) arrange information in a way that easily lends itself to filling out the taxpayer’s relevant tax return, be it the 1040 individual tax return, 1040 Schedule C sole proprietorship schedule, 1065 partnership and LLC return, or 1120 and 1120-S corporate tax returns as well as (2) easily tell the taxpayer where the information came from so evidence can be collected regarding the records if needed. This can be accomplished simply by keeping a tally (arranged by line number on the taxpayer’s relevant return) of amounts, a short description of what the amount is, the date the amount was gained or spent, and finally the evidentiary source of the amount. For example, an entry under a Schedule C “office expense” line number might read: 1-25-2008, $58.79, Office Supplies from Staples, Business Visa Card.
How Long Should a Taxpayer Keep Records?
The IRS has certain limits on how long a taxpayer may be audited. The general limitations period is three years, and an audit for willful conduct is six years. Therefore, since we are in tax year 2018 the IRS may conduct regular audits on 2015 tax returns and tax fraud or tax evasion audits on 2012 tax returns. Regardless, there may be business reasons to keep records for a longer period of time. Many states have statutes of limitations on written contract claims that are longer than six years (for example, Illinois has a ten-year written contract limitations period) and business records can be valuable resources if old claims suddenly become litigation. Further, a business might like to compare business records over many years to analyze growth and development.
Effective Methods of Keeping Records
There are two schools of thought on methods: computer programs and the traditional way of paper and ledger. Advocates of computer programs argue that the programs available to consumers are designed with a layperson in mind. Many of the most popular do not assume the user has any accounting or tax preparation experience. Several programs also have add-ons that generate and print relevant federal and state tax forms as well as the ability to file tax returns online. Advocates of an old-fashioned ledger system advocate that it allows them to completely control the design of their record system, even at the expense of ease.
Where to Go for Further Help
The Internal Revenue Service’s web site has a number of fantastic sources for individuals and businesses interested in reevaluating their record keeping system. The IRS’s website can be found at www.irs.gov. Additionally, most state revenue departments and some local revenue departments will have publications and white papers available. The Illinois Department of Revenue has significant resources available for interested persons here.
Pub. 552, Recordkeeping for Individuals [Jan 2011]
Pub. 583, Starting a Business and Keeping Records [Jan 2015]
Pub. 334, Tax Guide for Small Business [29 Jan 2018]
Pub. 17, Your Federal Income Tax [12 Dec 2017]
Updated: 29 Nov 2018