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Tax Records: When You Can Throw Away

A few days ago I wrote about throwing out financial statements. I get a lot of questions from folks on how long they should keep their tax returns and related records, so here's a guide.

What to Keep...
If you refinanced a mortgage, keep a copy of the mortgage note and the HUD-1 Settlement Statement. You will need to refer to the mortgage note to verify that adjustments to your interest rate are made correctly if you have an adjustable rate mortgage. The Settlement Statement includes any interest and points paid that may be deductible.

Keep receipts for appliance purchases; staple them to the warranty and store in a file for all household appliances (from the iPad to the washer and dryer). Check to make sure these purchases are covered under your homeowners or renters insurance policy

Keep receipts for any deductible expenses and keep them in a file for preparing next year's tax return. Keep receipts for expenses that can be submitted for reimbursement from employer provided health care and child care spending accounts.

For One Year...
Hang on to monthly statements of financial accounts unless each new statement shows the cumulative activity for the year (which is typical for mutual fund and mortgage statements).

Since most banks no longer return your cancelled checks, hold the pages that include copies of checks for deductible expenses - these provide proof of payment and should be stored with the applicable years tax returns.

Keep all paycheck statements until you've reconciled them with the year-end statement, your W-2 form and your 401k plan (or other contributory retirement plan) statement. After you receive your form W-2, and checked it against the last pay statement for the year, you can shred and discard all paycheck statements. Again, use a cross-cut shredder for this.

Monthly investment account and quarterly retirement plan statements can be shredded and discarded after you've reconciled them with the year-end statement.

For Three Years...
Keep your Federal and state income tax returns and related receipts and statements until the Period of limitations for that return runs out. For most tax returns that is three years. If you are audited, the IRS reserves the right to review tax returns filed during the Period of Limitations, which is generally the past three years, which includes requesting to see supporting documentation for the income and deductions you reported. Therefore, generally you will need to keep your 2007 tax return and related papers until April 2011 and it is generally safe to shred and discard if after that, unless a situation described below applies to you. See IRS Publication 552, Record keeping for Individuals.

For Six Years...
If there is the possibility that you may have under reported income by 25 percent or more, then you'll need to keep tax returns and all related information for six years. When there is substantial activity from a closely held business or cost basis records for property or securities sold are unclear, under reporting income is a real possibility. My rule: keep records and tax returns for years that include out-of-the-ordinary transactions (sales or donations of property) and irregular income (stock option exercises, trust income, etc.) for six years after the filing date of the return. Keep a 2005 tax return that includes reporting of irregular items until April 2012. So if the IRS hasn't raised any issues about your 2004 tax return by now, then it should be safe to shred and discard it.

For Seven Years...
Keep any tax return and documentation that includes a claim for deducting worthless securities for seven years.

There you have it. Check back in a few days and I'll share a few more tips on what to keep indefinitely and how to keep your records organized and safe.

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