When you think about retaining records and documents, the first thing that probably comes to mind is an IRS audit. While you need to present tax filings and supporting documents if you're audited or wish to amend a previous tax return, there are many reasons for retaining other types of documents and records. Here are a few of them:
The records and documents that businesses should have if they need to address most situations include:
Keep business income tax returns and supporting documents for at least seven years from the tax year of the return. The IRS can audit your return and you can amend your return to claim additional credits for a period that varies from three to seven years from the date you first filed. (These time frames are known as “periods of limitations.”) But it’s a good idea to use seven years as your guide for keeping these documents.
If you don’t file a return at all, the IRS can come after your business at any time.
Examples of supporting documents include:
The IRS suggests retaining employment tax records for a minimum of four years after the tax becomes due or has been paid, whichever is later. Employment tax records include:
Business owners typically deduct costs for property and equipment that are used for the business, which reduces their tax bills. Owners might also claim deductions for the depreciation of property or equipment, or they might amortize costs like franchise fees. (Depreciation is a calculation of the declining value of a tangible asset over time. Amortization refers to a similar calculation when the asset is not tangible.) Because these types of records are usually part of your tax return, you should follow the same rules for tax records, counting the year that you disposed of the property as the start of the period of limitations. Keep deeds for property and titles to vehicles among these records.
When you sell one business property and buy another in an exchange such as a 1031 Exchange, you'll want to retain the records on the property you sold as well as the property you acquired until the period of limitations runs out on the new property.
Depending on your business and the state where you're located, you might have many types of HR records that fall under the jurisdiction of different government agencies.
Generally, you'll need to keep the most common types of forms and documents, like employment and job application records, family leave documents, performance reviews, and benefit election documents, for three to five years, depending on the record and the state where your business is located.
Workers’ compensation records. Requirements and laws for retaining records on employees who are injured in the workplace vary by state, and you should check with the responsible state agency for guidelines on keeping these records. On the federal level, the Occupational Health and Safety Administration (OSHA) requires businesses to retain records on workplace injuries for five years.
Discrimination claims. Requirements for claims about employment discrimination also vary by state and the type of discrimination (age, gender, race, disability, and so on.) Federal agencies, including the Equal Employment Opportunity Commission (EEOC) and the U.S. Department of Labor, also have recordkeeping requirements for discrimination claims.
Employee pension and retirement plans. Pension and retirement plans might fall under both IRS and Employee Retirement Income Security Act (ERISA) rules. You might want to permanently keep records for employees who receive pension or retirement plan benefits from your company plan to protect yourself if the employee files a claim many years after retirement.
In addition to pension and retirement plan documents, permanently keep business formation documents, corporate by-laws, annual reports, shareholder meeting minutes, and business licenses and permits to help explain to potential buyers, lenders, and others the actions and decisions you made while running your business.
Your employer identification number (EIN) or tax ID Number is like a social security number. It can never be assigned to another business, and you should retain it permanently, even if you no longer operate your business.
If you have an “occurrence-based” insurance policy, you will want to keep it indefinitely. Occurrence-based policies insure you as long as the policy was in effect on the date that the event giving rise to the claim occurred. Should you discover damages or other losses after you have dropped or changed your policy, your coverage remains in effect. (By contrast, a “claims made” policy will cover you only if the policy is in effect when the claim is filed.)
You might also have leases for your business premises, insurance policies, and business loan records, among other documents. Leases and insurance policies can be used to help your negotiating position when it comes time to renew, and you will want to keep them until they are replaced.
You should retain lease and business loan documents that pertain to tax deductions for the seven-year period described earlier. Keep records of satisfied loans for seven years also.
You needn’t keep bank and credit card statements longer than a year, unless they contain entries that you are using for your tax filing. If they do, follow the rules for tax documents discussed earlier.
In today’s digital age, both paper and electronic records are acceptable forms of documentation. Make sure that records you have scanned into your computer files are legible, however.
The IRS recommends you back up your paper documents electronically in case of flood, fire, or other disaster. Choose a method of electronic storage—whether on your computer, in the cloud, or on a thumb drive or external hard drive—that offers the most safety and security against identity theft. Make sure your computer is password protected, and consider using an encryption program like Microsoft BitLocker, Apple FileVault, or a third-party program. Choose a well-protected cloud storage program, and use a unique and complex password with two-factor authentication.
]]>According to the IRS, individual taxpayers do 75% of the cheating—mostly middle-income earners. Corporations do most of the rest. Cash-intensive businesses and service industry workers, from handypeople to doctors, are the worst offenders. For example, the IRS claims that waiters and waitresses underreport their cash tips by an average of 84%.
Most people cheat by deliberately underreporting income. A government study found self-employed restaurateurs, clothing store owners, and car dealers did the bulk of the underreporting of income. Telemarketers and salespeople came in next, followed by doctors, lawyers, accountants, and hairdressers.
Self-employed taxpayers who over-deduct business-related expenses, such as car expenses, came in a distant second on the cheaters hit parade. Surprisingly, the IRS has concluded that only 6.8% of deductions are overstated or just plain phony.
If you're caught cheating by an auditor, the auditor can either slap you with civil fines and penalties or, worse, refer your case to the IRS's criminal investigation division.
Auditors are trained to look for tax fraud (a willful act done with the intent to defraud the IRS) in that dark area beyond honest mistakes. Using a false Social Security number, keeping two sets of financial books, or claiming a blind spouse as a dependent when you are single are all examples of tax fraud.
Although auditors are trained to look for fraud, they don't routinely suspect it. They know the tax law is complex and expect to find a few errors in every tax return. They will give you the benefit of the doubt most of the time and not go after you for tax fraud if you make an honest mistake.
A careless mistake on your tax return might add a 20% penalty to your tax bill. While not good, this sure beats the cost of tax fraud—a 75% civil penalty.
However, the line between negligence and fraud is not always clear, even to the IRS and the courts.
While auditors aren't detectives, they're trained to spot common types of wrongdoing called "badges of fraud." Examples include a business with two sets of books or without any records at all, freshly made false receipts, and checks altered to increase deductions. Altered checks are easy to spot by comparing written numbers with computer coding on the check or bank statements.
While the statistical likelihood of your being convicted of a tax crime is almost nil, it does happen to some folks. If you are in the unlucky minority, hire the best tax and/or criminal lawyer you can find.
To learn about the latest business tax breaks, rules, forms, and publications, see Tax Savvy for Small Business, by Frederick W. Daily & Stephen Fishman (Nolo).
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