Dealing With Annoying Business-Saving Records
The IRS recently reminded every self-storage facility and business about the importance of records, especially the importance of safeguarding tax records against natural disasters. Good records can also help a self-storage professional monitor the progress of the business, prepare financial statements, and attract partners/investors when seeking financing or selling the business.
Our Federal income tax laws require only that a business keep “complete and accurate records,” but what records a self-storage facility or business needs, what records it should retain, and for how long, is unclear.
Taxing Tax Records
Although the IRS suggests that tax-related records be retained until the “period of limitations” expires for that year’s return, it makes a great deal of sense to keep a copy of the self-storage facility’s tax returns permanently. According to the IRS, the period of limitation is the time period from the filing date until the date which a return can be amended or the IRS can legitimately pursue the business for additional taxes.
Typically, the IRS can come after a business for failing to report income for up to six years after filing if the amount is greater than 25 percent of the operation’s gross income. If a deduction was claimed for a bad debt or worthless security, the IRS recommends retaining supporting tax records for seven years.
A business with employees should retain all employment tax records for a minimum of four years according to the IRS. Employment tax recrods include such things as employer identification number, amounts and dates of wage payments and tax deposits, as well as the names, addresses, social security numbers, dates of employment, and occupations of employees.
If business property is involved, the IRS suggests retaining records until the period of limitations ends for the tax year when the property was discarded. These records will aid in calculating depreciation, amortization, or depletion deductions, and for determining any gain or loss resulting from the sale or other disposition of that property. If the business property involves real estate or a vehicle, the deed or vehicle title should be kept in a safe, secure spot until sold or otherwise discarded.
When The IRS Wants To Know
When it comes to taxes, the reason most often given by an IRS auditor when denying a tax deduction claimed by a self-storage business or its owner/operator is not because it is not allowed but because the amount of the deduction cannot be substantiated. Although the government is reportedly reducing the need to keep records of income, adequate documentation substantiating deductions is still extremely important.
To document expenditures, ideally every self-storage business should have a canceled check and an invoice marked “paid” for any item purchased. A canceled check without an invoice or other document showing the item purchased could be a problem. Fortunately, with few checks being returned by banks, the IRS will accept check images.
While an invoice is usually required to show what was purchased, statements from a supplier may be substituted, but only if they show the item. Best advice: Save all invoices; don’t assume the IRS will accept a check written without an accompanying invoice.
What about payments to independent contractors? Even for small purchases, the self-storage facility or business should have an invoice. What’s more, the independent contractor should receive a Form 1099-MISC, Miscellaneous Income. Without a Form 1099, the deduction could be lost, and the business fined.
While there is no requirement to keep receipts for any expense of less than $75, it remains necessary to record all information about the expense: how much, to whom payment was made, type of expense, the date paid, etc. Another good strategy: Keep a record of every deposit made to all bank accounts. Record all money coming in, whether taxable or not. At a minimum, note in the check register the source of each amount deposited.
Recordkeeping In Our Electronic Age
As more and more facility owners are turning to their computers to keep track of financial matters, the IRS continues to expand programs for electronic filing of tax returns. Taxpayers with assets of $10 million or more at the end of their tax year are required to comply with the retention requirements for “machine sensible records.” A machine sensible record is data in an electronic format intended for use by a computer.
Fortunately, a self-storage facility or business with assets of less than $10 million must comply with the record retention requirements for machine sensible records in only a few rare situations. While document retention is easier to manage electronically, it is still subject to the same retention rules. Of course, records should only be kept for as long as they are relevant, which, as mentioned, may mean six years for tax returns.
Not too surprisingly, there are exceptions to this general rule, such as tax returns that generate net operating or other types of losses, credits that may be carried forward for many years, tax audit records, and property basis records. These may need to be retained for longer periods.
The self-storage operation’s financial statements generally have a shorter period of relevancy than tax returns, and there are few hard and fast rules for these. Retention should be dictated by the business’ situation; records involving employee benefit plans, brokerage statements, and actuarial reports should be maintained permanently.
Holding Onto Records
Generally, canceled checks and other documents should be held for three years. Technically, it is three years from the date the tax return was filed. If the IRS suspects that income was underreported, they can go back six years. If it believes fraud is present, there is no time limit. Ideally, using a seven-year holding period for most records should be considered.
Obviously, no record should be disposed of simply because it is no longer needed for tax purposes. Those records should be retained until the self-storage professional checks to see if they must be kept longer for other purposes. Insurance companies and creditors, for example, may require some records to be kept longer than the IRS.
As mentioned, the IRS continues to warn everyone to safeguard themselves against natural disasters by keeping a set of backup records in a safe place. Naturally, the backup should be stored away from the original set of records.
Keeping a backup set of records (including bank statements, tax returns, insurance policies, etc.), is far easier today, with many financial institutions providing statements and documents electronically and much financial information being readily available on the internet. Even if records exist only on paper, they can be scanned into an electronic format.
With documents in electronic form, the facility owner can download them to a backup storage device, such as an external hard drive, or burn them to a CD or DVD. In fact, the IRS encourages saving scanned records to the cloud or other storage devices.
Making Up Lost Records
Reconstructing records after a disaster, any disaster, may be essential for tax purposes or getting federal assistance or insurance reimbursement. After a disaster, a facility might need certain records to prove a loss. The more accurately the loss is estimated, the more loan and grant money may be available.
Fortunately, the IRS allows its examiners to make some exceptions to the recordkeeping rules. Among other things, they are authorized to waive the recordkeeping requirements and accept “reasonable reconstruction” when, according to the IRS administrative guidelines, records were lost “due to circumstances beyond the taxpayer’s control, such as destruction by fire, flood, earthquake, or other casualty. Naturally, whether an event was beyond a facility owner’s control depends on the particular circumstances. The courts may also allow deductions without records.
A Beneficial Headache
Everyone knows the IRS has the authority to compute the income of any self-storage business with inadequate or no books or records. The methods used by the IRS for reconstructing income vary depending on the facts and circumstances, but are rarely favorable to the errant taxpayer.
Records and recordkeeping can take a variety of forms and shapes. Remember, however, records are not only about making the IRS happy. They also play an important role in managing the self-storage business.
Consulting with an attorney or tax professional can help guide a facility owner to a legal and tax compliant recordkeeping policy. In order to avoid identity theft and to protect sensitive business information, all business records should be disposed of properly or shredded.
Making Up For Lost Records
Should disaster strike, the IRS has specialists trained to handle disaster-related issues (Phone: 866-562-5227). Back copies of previously filed tax returns can be requested by filing Form 4506, Request for Copy of Tax Return. While the IRS and the courts do occasionally accept unsubstantiated estimates of expenses, tax deductions, insurance claims, and disaster reimbursements are far easier with documentation.
For a self-storage business that has lost some or all of their records during a disaster, here are several helpful tips:
- Create a list of lost inventories; copies of invoices can be obtained from suppliers.
- Check mobile phones or other cameras for pictures and videos taken of buildings, equipment, and inventory.
- *For information about income, make copies of bank statements. The deposits should closely reflect sales for any given time period.
- Copies of last year’s federal, state, and local tax returns, including sales tax reports, payroll tax returns, and business licenses obtained from the city or county will reflect gross sales for a given time period.
- If the self-storage business was pre-existing, the broker should have a copy of the purchase agreement.
- Suppliers and equipment dealers can provide copies of invoices.
Bottom-line: Nothing beats the actual records and documentation for reconstructing, proving, and reminding the business’ owners or managers of deductions, credits, and income that might otherwise be overlooked.
Mark E. Battersby is a freelance writer, columnist, author, and lecturer based in Philadelphia, Pennsylvania.