How long should you keep tax returns?
(MoneyWatch) Most people hold on to their statements for financial, credit and utility accounts a few years, and when the pile gets too big, it's time for the shredder.
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I find that in the case of tax returns, many people are afraid to discard them or confused as to how long they should keep them. The result is that they keep them all. One client told me he kept every tax return he filed going back over 30 years!
Keeping all of your financial papers that long is not a good strategy. For one thing, the result is an accumulation space-taking boxes of papers. More important, this squirrel mentality poses a security risk, since this paper trail is a trove of personal and financial information ripe for the picking.
The rule of thumb is is that most tax returns may be shredded three years from the date they were filed. However, in certain cases, they should be kept for six or seven years.
The purpose of the three-year rule is to be prepared in the event of an audit: The IRS has the right to review all tax returns filed during the Period of Limitations, generally three years from the date you filed for any given year. The agency may also request supporting documentation for the income and deductions you reported. So you will need to keep your 2009 tax return and related papers until April 2013, after which it is generally safe to shred and discard them, with the exception of scenarios described below. See IRS Publication 552, "Recordkeeping for Individuals."
If you believe you may have under-reported annual income by 25 percent or more, you should keep returns for the years in question, along with all related information, for six years. When there is substantial activity in a closely held business or cost-basis records for property or securities sold are unclear, under-reporting income is a real possibility. I would advise you to keep records and tax returns for the years that include out-of-the-ordinary transactions (sales or donations of property), and income from activities such as stock option exercises, trust income, etc., for six years after the filing date of the return. So, for example, keep a 2006 tax return that includes reporting of irregular items until April 2013. If the IRS hasn't raised any issues about your 2005 tax return by now, it is safe to shred it.
Last, you should keep any tax return that includes a claim for deducting worthless securities for seven years.
If you've lost or discarded a tax return and later need a copy, don't worry. Copies of tax returns, all attachments and W-2 forms are generally available for seven years from the IRS and can be obtained by filing Form 4506, Request for Copy or Transcript of Tax Form. You'll also have to fork over a nominal fee for each return requested.
