Many people face the dilemma of what to do with old tax returns and supporting paperwork, often wondering when it’s safe to discard them. However, determining the right time can be tricky, especially for taxpayers with foreign assets.
Those with overseas financial interests must pay particular attention for several reasons, including expanded statutes of limitation which can permit an indefinite IRS audit timeline and practical problems in retrieving records from international institutions which can often be more challenging. Careful record retention is critical for all taxpayers, but those with foreign assets are more vulnerable and should take extra care to avoid future headaches.
Basic Recordkeeping Advice
During an IRS or state audit, the responsibility falls on the taxpayer to substantiate their tax positions, particularly deductions. If you’ve prematurely disposed of important documents, you could find yourself in a difficult situation. Additionally, if the IRS needs proof that you filed a return, you may be unable to provide that evidence unless you have retained a copy of the return itself. It’s wise to keep at least soft copies of all filed returns and proof of submission (e.g., registered mail receipt), as this can save significant trouble later.
The rules surrounding the IRS statutes of limitations offer some guidance on how long to keep tax records. It’s essential to retain supporting documents, such as receipts and bank statements, until the statute of limitations expires for the tax return in question. In today’s digital age, many of these records exist online, but closing an account could mean losing access to them. It’s best practice to print and save both digital and hard copies of banking and financial statements annually.
Key Statute Of Limitations Rules
Here’s a breakdown of some key SOL rules for U.S. federal tax returns:
1. Three-Year Statute for Most Returns: The general statute of limitations is three years from the date the return was filed. However, there are significant exceptions.
2. No Time Limit for Fraud or Non-filing: If a return is fraudulent or not filed, the statute never begins. This means the IRS can pursue you indefinitely for that tax year.
3. Six-Year Statute for Large Underreporting: If unreported income exceeds 25% of the gross income on your return, the IRS has six years from the filing date to assess additional taxes.
4. Unreported Income From Foreign Assets: The six-year statute also applies if you fail to report more than $5,000 of income from certain foreign financial assets. Taxpayers with overseas holdings must take extra care in retaining records.
5. Foreign Information Reporting: If you fail to meet foreign reporting requirements, such as disclosing ownership in foreign corporations, partnerships or trusts, or reporting receipt of foreign gifts or inheritances the statute of limitations doesn’t start until compliance is achieved. Once reporting is complete, the IRS has three years to audit the entire return. Numerous types of foreign information reporting are mandated and unfortunately too many return preparers are not familiar enough with these complicated rules. When international spouses of different nationalities (with a U.S. nationality in the mix) live, work and hold assets in multiple countries, U.S. tax information reporting issues can easily multiply.
6. FBAR Retention Requirement: Taxpayers required to file an FBAR (Foreign Bank Account Report) must retain account records for five years from the report’s due date. Multinational couples often face tricky situations and are surprised to learn they may have FBAR filing duties with respect to their spouse’s foreign financial accounts. In cases involving criminal tax charges, records may need to be kept longer. The duty to file an FBAR can come as a surprise in many instances and IRS has been very harsh in assessing penalties for failures.
7. Claims for Refunds: Generally, you have three years from the date the return was filed, or two years from when the tax was paid, to file a claim for a refund.
When Minimum Retention Periods Aren’t Enough
In some situations, simply adhering to the statute of limitations isn’t sufficient. For example, if you’ve bought property, whether real estate or financial assets, you’ll need to retain documentation of the purchase price (or “basis”) and any adjustments made to it, such as depreciation or capital improvements. This information will be essential when the property is sold, which could be long after the tax statute of limitations period has passed.
It’s also important to consider state and local statutes of limitations, which may vary. Additionally, some documents may be needed for non-tax reasons, such as insurance claims or handling a decedent’s estate. When in doubt, consult a qualified tax attorney or accountant before discarding any records.
I help with tax matters around the globe. Reach me at vljeker@us-taxes.org
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