How Long Does a Business Need To Keep Records
How long should we retain our records?
This question might seem mundane, but it carries significant weight due to its implications for business operations. Understanding the correct retention period for business records is about more than just freeing space in your filing cabinet or hard drive.
It's about legal obligations, financial audits, and historical accuracy. It involves considering both legal requirements and tactical business decisions.
This article will discuss specific periods for record retention, the factors that might influence these periods, and the potential ramifications of failure to comply.
PS: If you are a small business operating as a corporation in the U.S., you can file Tax Form 1120 here.
What is the Definition of Business Records?
Business records refer to all documents, files, or data generated during business operations. They include financial statements, tax returns, employee records, contracts, invoices, memos, and emails.
These records validate transactions, meet regulatory requirements, and serve as reference materials for decision-making and dispute resolution. Knowing what constitutes business records is a crucial first step in understanding why and how long to preserve them.
Let's discuss further the importance of record retention in business operations.
Record retention is pivotal to the functioning of any business, regardless of its size or industry. It fulfills legal or regulatory obligations and supports informed business decision-making. These records can be invaluable in identifying trends, evaluating performance, and mitigating disputes or potential litigation.
How Long does a Business need to Keep Records?
Here’s a table outlining various business records and their respective retention periods. These periods are recommended but may alter depending on particular legal requirements or business circumstances.
What is the General Retention Principle?
Per the IRS, the duration of a document's retention is determined by the nature of the action, cost, or event it reports. Typically, records validating income, deductions, or credits on a tax return should be kept until the limitation period for that tax return expires.
The limitation period is the period during which you can modify your tax return for a credit or refund or when the IRS can impose extra tax.
The details below present the applicable limitation periods for income tax returns. Unless otherwise specified, the years concern the time after the return's filing. Returns submitted before the due date are considered filed on the due date.
As a note, always maintain copies of your filed tax returns, as they can aid in preparing for future returns and calculations if you need to file an amended return.
What is the Period of Limitations that applies to income tax returns?
IRS rules primarily dictate the period of limitations that apply to income tax returns. These periods can range from three years, where no significant discrepancies are identified, up to six years in cases of unreported income that exceeds 25% of the income stated on a return.
Here’s what the IRS recommends.
- Maintain your records for either 3 years from filing your original return or two years from the date you paid the tax, depending on which date is later. This is necessary if you submit a claim for credit or refund after filing your return.
- Maintain records for seven years if you claim a deduction due to worthless securities or bad debt.
- If you report income that is less than 25% of your return's gross income, maintain records for six years.
- Maintain records indefinitely if a return is not filed.
- Maintain records indefinitely if you submit a fraudulent tax return.
- Maintain employment tax records for at least four years from when the tax is due or paid, choosing a later date.
Please note: Keep your records until you've verified they are not needed for purposes beyond tax, such as insurance or creditor requirements, which may necessitate longer retention than the IRS demands.
Also read A Beginner's Guide to Record-Keeping for Small Businesses.
What Will Happen if Records Aren't Kept Properly?
Not adhering to proper record retention can have severe implications for your business, such as:
Financial penalties
This could happen when your business is fined for not providing the necessary documentation during an audit or legal proceeding.
Increased risk of legal liabilities
Your business could be liable for legal issues, disputes, or claims without accurate records.
Loss of corporate memory
Poor record quality or data loss can erode your business's institutional memory.
Increased auditing time
A lack of organised records can make auditing processes more time-consuming.
Damage to professional reputation
If your business fails to meet legal or industry-specific compliance standards, its reputation could suffer. Inadequate record retention can also result in lost business opportunities. Not having proper documentation can also affect stakeholder relationships—employees, clients, or vendors.
A comprehensive understanding of past performances or trends makes it easier to strategise for future growth. Therefore, a record retention strategy is essential not only for compliance purposes but also to enhance the overall management efficacy of your business. It ensures the availability of critical insights when needed, too.
Let’s Recap!
Maintaining accurate business records is crucial for every organisation, whether small or large. Software like Inkle Books can significantly streamline this process, making tracking income and expenses a breeze.
Besides ensuring regulatory compliance, timely and accurate record-keeping also assists in strategic decision-making, supports trend identification, prevents legal disputes, and furthers business growth.
Hence, it is not just a legal obligation but a practical necessity. Remember, good record retention is integral to your business's successful functioning and sustainable growth.
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