Record retention refers to the storage of records no longer active. Some records such as birth and marriage certificates, discharge papers from the armed services, naturalization papers, wills, property titles, insurance policies, and other important records are typically held for life by individuals. Businesses retain financial records for tax reasons or to maintain historical information; certain other records must be kept because required by law. Records typically fall into four categories: those securing property such as titles or shares; those that mark certain crucial events such as businesses incorporations; those used for assessing operations; and those collected or retained in compliance with government regulation.
For the small business, retention of financial records on income, expenses, and withholdings and payment of taxes are those most commonly retained. Under Internal Revenue Service (IRS) guidelines these should be held for at least three years or until the statute of limitations on an IRS audit expires.
Records are normally retained as documents. In 1997 IRS issued new rulings related to storage of business records, essentially approving of the practice if such storage is accompanied by appropriate safeguards.
TYPES OF RECORDS
Businesses generate three main kinds of records: income, expenses, and capital expenditures. Income includes the revenue from sales of products or services, including both cash receipts and the collection of receivables. Expenses include cash disbursements and accounts payable that cover all operating expenses. These records should be maintained continuously. In the case of expenses, the records must not only prove that an expense was incurred, but also show how it was related to business. This is particularly important in the case of meals and entertainment expenses, for which the records must indicate the date, place, amount, and purpose of the expenses, as well as the type of business relationship with the person entertained.
It is also important for small business owners to keep records for major capital purchases to determine depreciation for tax purposes. These records must include the date and place of purchase, a complete description of the item, the amount paid, how it was purchased, and the date when it was put into service for the business. Keeping these basic business records enables business owners to track their progress, identify problems, and take advantage of all possible tax deductions.
Small businesses that employ people other than the owner or partners are required by the IRS to keep detailed payroll records. In fact, there are a total of 20 different types of records that must be kept for income tax withholding, FICA (Social Security) tax withholding, and FUTA (federal unemployment) taxes. These records—which include employees' names, addresses, and Social Security numbers, the amount and date of wages paid and withheld, and the amount of each type of tax paid, among other things—must be retained for at least four years from the time the relevant taxes were due or were paid, whichever was later. Experts also recommend that small businesses keep careful records regarding any automobile, life, fire, health, and other insurance coverage they hold. These records should list policy numbers and carriers, amounts of premiums and dates paid, and information on claims.
A variety of government requirements for record storage exist for specific cases. Under the Sarbanes-Oxley Act of 2001, which enacted accounting and auditing reforms for publicly traded companies, record retention requirements relating to all manner of insider dealings has imposed new costs on public companies, including stringent requirements to safeguard electronic records. Companies that work as federal contractors are bound by employment rules similar to those of the federal government itself and must retain records on hiring, firing, and other personnel actions—not least resumes received over the internet. Environmental regulations require record keeping on process effluents and hazardous waste disposal events. Recordkeeping regulations also apply under the Occupational Safety and Health Act (OSHA). Keeping up with all the rules is difficult for the small business owner unless he or she carefully reads the industry's trade publications which typically report changes in such rules. A sensible alternative is simply to retain all record related to money, people, property, safety, technology, law, and the environment.
Retaining all records or retaining some categories of records (and different categories for different periods) are part of a "record retention policy"—whether viewed as such or not. People concerned with records speak of "junk drawer" finances, indicating the worst such policy short of throwing things away: the more or less careful ferreting away of papers into a drawer on a vague hunch that they might be necessary later. More orderly arrangements, under which the company has well-developed rules on document handling, represent a genuine policy. Retention is thus part of orderly administration.
In the carefully administered business, records are typically classified into three categories and held in different places. Active records are distributed at work points in various departments, each department responsible for its own records. Such records usually cover two or three years of operations. On the same site but in remote locations will be file cabinets holding records going back two or three additional years. These records are occasionally consulted and are therefore held at the site. Transferring documents to the on-site storage may be an annual event or take place as more room is required in the active records areas—with on-site storage also divided up by departments. Finally, the company may hold a third category of archival records. These are stored either off-site in a warehouse or on site but reduced to microfilm in order to save space.
Maintaining such archives requires a fair amount of discipline. Ideally records are stored in neatly labeled file cabinets and care is exercised in removing records for reference and putting them back again. Discipline is needed because nothing seems quite so dead as the fairly deep past, and when a looking at these records most of us have trouble imagining these records ever being "needed." But occasionally tremendous anxieties can be aroused when, in the face of a threatened lawsuit, the very records proving our probity cannot be found. Record retention is akin to insurance. It's a nuisance until you need it.
The archiving of electronic records is a special category that requires attention. Most companies back up electronic records but do so on media (disks or tapes) that are periodically reused. The reuse of storage media means that the "far" past is often erased (covered over) by data from the "near" past. In the evolving record-retention climate brought about by Sarbanes-Oxley, itself the creature of corporate scandals, companies need to review their electronic data retention practices. Certain types of backups, thus, may have to be set aside as archives, the disks or tapes not reused. These media need to be held for archival purposes rather than to repair computer crashes.
HOW LONG TO RETAIN VARIOUS TYPES OF RECORDS
Federal income tax returns, annual financial statements, general ledgers, fixed asset records, and corporate documents (charter, bylaws, stock records, patent and trademark applications, labor contracts, pension records, etc.)—businesses typically retain such vital records for life. They tend to be looked at and in part purged only when the business changes hands. Regular business documents that support financial statements and tax payments—such as canceled checks, payroll checks, bank statements, invoices, purchase orders, and personnel records—should be retained for at least six years. These time periods allow for a margin of safety in meeting the IRS rules, which also address the means that may be used in retaining records.
Most of the IRS guidelines for record retention are included in Section 6001 of the Internal Revenue Code. The guidelines specify that the taxpayer must be able to establish on the basis of a documentary trail the amounts associated with income, costs, credits, and other relevant factors that relate to tax liability. These records can take the form of paper files or computerized data. Further IRS guidelines for record retention were issued in 1997 through Procedure 97-22. It permits taxpayers to transfer their paper files or computerized records to an adequate electronic storage medium. The storage method must be complete and reliable and be accessible for retrieval of relevant elements of information. The guidelines authorize the IRS to test the storage system periodically without actually conducting an audit, and if it does not comply with the guidelines then the taxpayer may be subject to penalties.
Record retention is part of the company's administrative work. Here an approach of routine, habitual, orderly procedure brings the best results with least costs. A good rule of record retention is: When in doubt, keep it!
see also Internal Revenue Service Audits; Sarbanes-Oxley
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