How long to keep tax returns is one of the most frequently asked questions in personal finance.
Did you know that the average American spends 13 hours a year preparing federal tax returns? For small business owners, this figure almost doubles to 24 hours!
After filing your tax return for the year, it’s always a relief. But then what do you do with all the documents? How long should you keep your tax returns and records?
For most people, three years is a good time, but in many situations it can be much longer. In addition, it is often a good idea to keep records for longer than the required time for other non-tax reasons.
Keep reading to find out how long you should keep tax records in your situation. The answer may surprise you!
What is the limitation period?
First, let’s start with some definitions. As always, the IRS has somewhat confusing terminology regarding how to measure the amount of time that you must file tax returns.
According to the IRS, a restriction period is “the period of time during which you can change your tax return to request a loan or refund, or the IRS can calculate an additional tax.”
You will obviously want to keep all of your tax records for the period of restrictions that apply to your particular situation, which we will discuss in more detail below.
The limitation period starts from the date of filing the tax return. Refunds submitted early are deemed to have been filed on time. Therefore, if your taxes were due on April 15, but you applied in February, the countdown still starts on April 15. However, if you received an extension and applied on September 15th, the statute of limitations will begin on that date.
How long to keep tax returns (according to the IRS)
As for the tax return itself, the IRS recommends keeping it forever. I would agree with that 100%. Especially in the digital age, when everything can be saved to hard drive or backed up to the cloud, there is no reason to ditch the actual tax returns.
Past tax returns can help prepare future tax returns and, if necessary, calculate revised tax returns. For example, if you own a rental property like me, you amortize it over 27.5 years. Having past tax returns as a backup for my calculations makes it much easier to enter depreciation when I sit down to pay taxes next year.
However, many other records, such as W-2, 1099 forms, charitable donation receipts, mileage journals, and more, help maintain your tax return. How long should you keep all these documents?
Here are the statute of limitations and how to apply them directly from the IRS website.
Limitation period for income tax returns
- Keep records for 3 years unless situations (4), (5) and (6) below apply to you.
- Keep your records for 3 years from the date you filed your original tax return or 2 years from the date you paid tax, whichever comes later if you apply for a loan or refund after filing your tax return.
- Keep records for 7 years if you file a claim for impairment losses or bad debts.
- Keep records for 6 years if you do not indicate the income you must report and it is more than 25% of the gross income shown on your tax return.
- If you do not file a return, keep records indefinitely.
- Keep records indefinitely if you file a fraudulent refund.
- Keep tax records for employment for at least 4 years after the due date or tax payment, whichever is later.
In simple terms, most people should keep their tax records for three to seven years. (Remember that this is measured by the statute of limitations and starts either on the filing date of the tax return or the time the tax is actually filed, whichever comes later.) If you want to play it safe without thinking about the small print and how it applies to you, you can plan to keep your tax records for seven years.
However, if you want to dig a little deeper, the next section will cover some specific scenarios.
One interesting thing to note: the recommendation to keep records for an indefinite period if you do not file a return or do not file a fraudulent return. I hope the readers of this article do not fall into this camp, but to emphasize, there is no statute of limitations when the IRS can go after you if you file a fraudulent tax return. So please don’t do this!
Unique requirements for property owners
One of the first possible exceptions to the rule is tax reporting related to real estate (for example, your private home, cars or rental properties).
According to the IRS, you must maintain property records “prior to the statute of limitations in the year in which you own the property.” Therefore, if a three-year restriction period applies to your situation, you will need to keep all property records for at least three years. These documents will include anything that supports your depreciation, amortization or depletion deduction calculations.
For example, if you bought a home 20 years ago and sold it this year, you will need to keep any records related to that property that support the deductions on your tax return for another three years. This can include loan documents or final reports. when you bought your property 20 years ago.
Another thing to consider, especially if you are investing in real estate, is the 1031 exchange. If you use the 1031 exchange to defer taxes by selling one investment property and buying another, you will need to keep records of the property for three (or more) years after the sale of the new property.
This is because the cost base on the old property helps determine the cost base for the new property, and you need a documentary trail all the way back to confirm the ultimate profit or loss on the sale of the new property.
Generally, I plan to keep all property records forever. They are easy to digitize and come in handy for reasons other than tax preparation, such as applying for a loan or refinancing in cash. One of the things I have learned in the real estate investing process is to keep good rental records and bookkeeping records throughout the year. This makes tax time a lot easier and I am not struggling to find receipts and expense reports for months.
How long should I keep my tax returns as a small business owner?
If you own a small business, have a part-time job or work as a freelancer, or make a significant portion of your income from 1099s or hidden jobs, there are some special considerations for you.
While this is not intentional (or at least it shouldn’t be), if you get a lot of different 1099s, it’s easy to miss reporting some of that income. According to the IRS guidelines above, they have up to six years to check you if you forgot or neglected to report at least 25% of your income.
For this reason, a business owner should probably plan to keep 1099s and other records of income and expenses from the business for at least six years to be safe.
This also applies to those who have a W-2 job but who earn significant income from side hustle and bustle or other sources. If you use multiple apps to make an extra $ 20 here or there, this probably isn’t the case for you. But if you’ve started an accounting business alongside your day-to-day work as a financial analyst and is generating a decent income, I highly recommend following the guidelines in this section for business owners.
What if I made a claim for investment losses or bad debt write-offs?
Sometimes your financial investments don’t go as planned and you suffer significant losses on stocks, business investments, or a loan to your soulless uncle that never comes back.
The good news is that you can claim this loss to offset your income (in most cases) on your tax return. However, according to the IRS, filing a bad debt or worthless investment claim will incur a seven-year restriction period. In this situation, you will want to keep your tax records for at least seven years for an IRS audit.
How long to keep government tax returns
In most cases, following the IRS guidelines for how long to keep federal tax returns will also keep you clear for state tax records.
Be sure to check your state’s requirements, however. Some states may take longer to check your state tax return than the IRS to check your federal tax return. For example, there is a limitation period of up to four years for checking your California state tax return. If you live in California, you should make sure to keep your records for at least this time.
How long to keep tax returns: summary
Preparing and filing taxes is never fun, and it’s even less fun to worry about how long you need to keep all your tax returns and records. However, a few rules of thumb and IRS guidelines will help you figure things out.
After all, there is no one-size-fits-all solution. If you want to be on the safe side, it’s a good idea to keep all your tax records for seven years. If you have a corporate job with a W-2 salary and no real estate investment or significant losses, then three years is probably enough.
Here’s a quick rundown to sum it up:
- In most cases, keep tax records at least three years from the date of filing
- If you own a small business or have multiple sources of income, it is safer to keep tax records for at least six years
- If you are reporting investment losses or bad debts, keep your tax records at least seven years
- If you own a property, keep all purchase records and tax records for that property at least until three years after the sale
This article originally appeared on Your Money Geek and has been republished with permission.