What Tax Records do I need and for how long?

We’re often asked about record keeping requirements. So here’s a general overview of what’s required, and for how long. Then we’ll make some recommendations about how to best comply.

To establish that expenditures occurred, the taxpayer has to establish that each expenditure was (1) paid or incurred for (2) business or profit-oriented purposes, AND (3) establish the amount spent. (See IRC Section 162.) The requirements for income are essentially the same. Outside this, there is no mandated record keeping requirements in the law. So any record keeping system that accomplishes this is adequate.

It is best if your records are detailed so you can account for each receipt (income) and each payment (expense). Deposit records are a great way to document the income you receive. And canceled checks or invoices are a very good way to keep track of expenses. But so long as your record keeping system involves systematically recording each receipt and expense when it occurs and the records correspond to your bank and credit card statements then your system will be sufficient to substantiate the information you report.

But what if you don’t have the specific records? Well…under the Cohan rule you may still be able to take the deduction. The Cohan Rule comes from one of the oldest (and best) federal court decisions. See Cohan vs. Commissioner, 39 F. 2d 540 (2d Cir. 1930). This court case, against the IRS, was initiated by New York celebrity George M. Cohan (known for “Give My Regards to Broadway” and “Yankee Doodle Dandy”). He was one of the first individuals audited by the IRS. The IRS claimed that Cohan’s records were inadequate (he had very few receipts) to substantiate his hotel and other travel expenses. Cohan had estimated these expenses and explained why they were incurred for business purposes. The Federal Appeals Court, in an opinion authored by well-known Judge Learned Hand, held that the sums were allowable business expenses. And the rule still stands.

You should plan on keeping your records for at least three years after the tax returns are filed. That means if you file in April of 2013, keep the records until May of 2016. Digital copies are acceptable, including digital copies of hand-written records. And keep in mind that some receipts are heat-sensitive so they will fade over time, so digital records are often the best records. Make sure you label them so you know what you’ve stored.

For the IRS view on record keeping, see IRS Publication 552 (for individuals), Publication 583 (for businesses), and Publication 463 (travel and related expenses). But keep in mind that these Publications are only one side of the issue. The IRS requirements are not law…that’s what Congress makes and the court’s (like the Cohan Court) interpret.

By: Evan A. Nielsen, Esq. (Licensed in California)

Need help with your tax audit? We frequently represent taxpayers for IRS tax audits. Contact us to schedule your free consultation at (480) 888-7111 or submit a web request here.