Posted by Shivali Anand
May 4, 2022 | 10-minute read (1834 words)
As a business owner, you probably store tax returns, employee data and bank statements. Sadly, there is no universally applicable retention policy for all data types, meaning you must develop a document retention policy — which from here on we will refer to by the acronym DRP — and categorize your documents.
Seemingly no one knows how long documents must be kept in the digital era. This leaves executives with the unsettling feeling that their company's survival could rest on properly executing this tedious chore. After all, choosing an incorrect record-keeping method has the possibility of leading to litigation, succession planning issues or even a tax audit. Knowing how long to maintain company documents, tax returns and other papers can therefore restore your peace of mind.
The IRS has established some basic record-keeping criteria for tax paperwork. Outside of tax law, there's limited direction as to how long to keep company records. Most attorneys, accountants and accounting services suggest that original tax-related documents be retained for at least seven years. In general, seven years is an adequate time for defending against tax audits, litigation and other claims against one's company.
What comprises a business record?
Business records are documents that provide information that is significant to a company's operations and activities. A record can be either physical or digital, and it can comprise a plethora of documents, ranging from meeting minutes to legal agreements.
Not all papers generated by or linked to a business should be considered business records. Companies should have a DRP in place that specifies what information will be regarded as a record for their particular organization.
It's best practice to organize records into categories as they are saved so they can be easily accessed later. The nature of the business itself can help determine the categories used to manage the records.
Active versus inactive, digital versus physical
Business records can be categorized by usage, based on whether they are active or inactive. They can also be categorized by documentation format, based on whether they are digital or physical documents.
Active records are viewed and checked frequently. They are considered active based on the company's own rules and processes. Active records should be up to date and easily available.
Inactive records are not needed regularly, but they may be required to be kept for legal, financial or historical purposes. An example of an inactive document could be meeting minutes, kept for historical purposes but not used very often. However, inactive records could reach a point when they are no longer needed and should be removed or permanently archived. The organization's retention schedule should determine when inactive records are no longer required to be stored.
Digital documents are records that are stored electronically and that cannot be physically retrieved. They are stored on computers, databases or even virtual clouds that are designed to hold massive volumes of digital information. Most firms now use electronic forms of documentation, especially those that rely on secure data preservation and analytics. This is common in digital transformation processes. So, these are the main advantages of digital data, including accessibility and flexibility in terms of storage space and controlled access are the chief advantages of digital documents.
Physical documents are tangible. You physically manage such documents and store them in a designated place, such as a file cabinet or a documents archive. Instances where physical records may be preferable include legal documents, paperwork that is sensitive and therefore requires careful handling, readability and life's reality, wherein it’s simply easier to store certain things physically. Storage space and the risk of physical damage are the risks of storing physical documents.
Types of records to save
The most important business records to consider in your DRP are outlined below. In general, you should keep copies of such records even when they are no longer needed for day-to-day operations in order to ensure compliance and prevent legal issues. However, you should permanently save auditor reports, yearly statements and retirement plan documents.
• Payroll tax records, including timesheets, earnings, pension payments, tax deposits, benefits and gratuities.
• Business tax returns and accompanying documentation must be preserved until the IRS can no longer audit your return.
• Job candidates' data should be saved even if the candidate is not hired.
• Accounting and bookkeeping records.
• Bank account statements, canceled checks, credit card statements, cash receipts and checkbook stubs.
• Additional records to keep include a sales log, an accounts payable log, an accounts receivable log, a business cost log, a purchase order log, contracts and a customer list.
Why is it necessary to maintain business records?
The effort of keeping records might easily be overtaken by the day-to-day demands of running a business. However, not maintaining complete and up-to-date records can impair your business’s long-term operations.
As a business owner, keeping your records gives you the opportunity to learn from your mistakes and successes. Making accurate predictions and taking stock of your firm’s existing state also necessitate having meticulous records on hand.
The IRS directs businesses to maintain records that can be instrumental in the following areas:
Tracking your company's success – Monitor sales, inventory and other records to see how your business is doing.
Compiling financial reports – Accurate financial reports require reliable record-keeping. These include income statements, profit and loss statements and the like.
Estimating tax payments – To make estimated tax payments, you must forecast your tax liability. Estimated taxes are used to pay non-withheld income tax, self-employment tax and other taxes.
Tracking deductible expenses – Keeping track of your deductible expenses is critical. Unless you keep receipts, you may overlook such costs when filing your taxes.
Identifying payment sources –There are several ways you can get money or property. You can discern the origin of your receipts from your records. So, you can distinguish commercial from personal revenues and taxable from nontaxable income.
Completing tax returns – To prepare your taxes, you will access to your company’s records. These documents must substantiate your income, spending and deductions.
Substantiating tax figures – The IRS has the right to inspect your company documents at any time. If the IRS conducts an audit, you may need to furnish proof to back up your figures. A complete collection of records will speed up the process.
How long should you maintain business records?
DRPs often mandate the owning organization keep documents for one, three or seven years, depending on the industry and their purposes. In some situations, you may have to maintain the records indefinitely. A professional accountant, lawyer or state record-keeping organization can help you determine which documents to save and for how long, and which to discard.
To help you decide on a document retention policy, consider the following:
• Personnel records: For a detailed breakdown of obligations, consult the federal record retention rules. As an example, documents related to exposure to hazardous chemicals must be kept for 30 years after the employee's work has ended. Another example is OSHA accident reports, which must be kept for five years after the incident occurred.
• Business tax returns: Per the IRS, tax returns should be maintained for at least three to seven years. Even if you do not file a return, the IRS strongly recommends that you save records for that tax year. Keep all your federal tax returns, including payroll tax data, for a minimum of seven years to be on the safe side.
• Legal papers: Optimally, you should maintain firm formation records, titles, partnership agreements, patent and trademark registrations, property appraisals, bill of sale paperwork and other ownership records for as long as possible.
• Accounting records: Keep small business accounting records relevant to your taxes for at least seven years, including depreciation schedules and year-end financial statements. Your CPA may also recommend that you maintain accounting records permanently.
• Payroll information: Under the Fair Labor Standards Act, companies must retain payroll data for at least three years. As an added precaution, all businesses subject to federal anti-discrimination regulations must keep documents providing justification for paying different wages to personnel of the opposite sex but occupying similar roles.
• Hiring records: Keep job postings, applications and resumes on file for at least a year as per federal retention requirements.
• Insurance, permits and licenses: Save any permits, licenses and insurance policy paperwork until replacements arrive.
• Bank statements: All business banking, investment and credit card statements and canceled checks, should be kept for at least seven years, but this could be longer if your business or tax situation requires it.
Business documents that should be retained indefinitely
While most business records can be discarded at some point, others should be kept for as long as possible. Along with pension and retirement plan documents, you should indefinitely retain business formation documents, active leasing agreements, operating permits, corporate by-laws, stock certificates, annual reports, shareholder meeting minutes, business licenses and permits to assist your business's activities.
Hang on to these documents in the event they may be needed in the future. While it is impossible to predict whether you will need them, it is wise to keep them separate from your other files. That way, you will always know where they are. When it comes to keeping records, it is better to be cautious than regret it afterward.
Certain tax records may be needed indefinitely. In many cases, when assets are sold, they have tax consequences. The rule of limitations will apply to the next tax return that includes the sale of the assets, so it is important to hang on the corresponding records.
Essential business documents that should be held onto forever are those that help you start the business and keep track of your ownership, like stock ledgers, titles, deeds, property records and contracts.
Businesses must also maintain minutes of shareholder meetings. Owners of a corporation could lose their liability protection if they do not maintain such records. Missing paperwork can result in significant liabilities as well as missed business potential.
Employer identification numbers and tax ID numbers are never reissued to another firm. You should retain corresponding documents even if you stop running your business.
If you have event-based insurance, you will want to keep policy documents for as long as possible. Occurrence-based policies cover you as long as the policy was in place when the claim was made. Your insurance will still protect you if you find damage or other losses after dropping or changing your policy.
The IRS does not have any requirements per se for keeping your records. However, they require you to be able to provide such records immediately upon demand. Maintaining an adequate record-keeping system is tremendously beneficial, whether you prefer to preserve them in physical or digital format.
Once you have decided to discard documents, it is critical to shred them before throwing them away. These papers have sensitive personal data that must not be compromised. If you choose to maintain your records 100% electronically, ensure that you have a sufficient and secure backup mechanism to avoid a catastrophic loss of critical data in the event of equipment failure.