Financial Spring Cleaning Ideas

As seen in the Concord Journal in May 2012
By Lee C. McGowan, CFP^®

We’re well into spring and if you’re reluctant to take on the proverbial spring cleaning tasks such as organizing the closets and cleaning the garage, then take a run at “financial spring cleaning.” Rather than purging old clothes and refreshing the drapes, perhaps use the momentum from the recent tax season to freshen up your financial files.

Clean up the financial files

The first step in cleaning up your files may be to simply understand what should be saved and what can be purged. A few items that come to mind are tax returns, supporting tax documents (e.g., Forms 1099, W-2s, tax deduction backup) and financial account statements. IRS Publication 552, Recordkeeping for Individuals, discusses the records that should be saved for tax purposes.

Income Tax Returns: Plan to keep your tax returns and supporting documents for at least three years. In general, if you are audited, the IRS is able to review these documents for the period of limitations(i.e., the length of time you are able to amend your tax return to claim a credit or refund, or that the IRS can assess additional tax). If the IRS believes you have underreported your income by 25% or more, they can extend the period by three years. If you sell a worthless security, the period of limitations is seven years. If it’s suspected that you committed fraud (or you don’t file a return), then there’s no deadline for an audit.

Rather than trying to remember all these limitation periods, the safe bet is to save your tax returns and select supporting documentsfor seven years. Be cautious, there are certain tax-related documents that should be retained for longer periods as described below.

Forms W-2: The IRS recommends saving Copy C of Forms W-2 until you begin receiving Social Security. If there are questions relating to work history and/or earnings, then you will have a record for evidence.

Home Purchase: Save records relating to the purchase of your house until you sell the property plus at least six years (i.e., for the period of limitations as mentioned above) or follow the general rule and save the information for seven years after you sell. Also, file away receipts for home improvements as certain home improvements may increase the cost basis of your home and reduce the future capital gains tax burden.

Investment Account Statements: Investors are accustomed to saving documents that support the purchase price of their investments (e.g., trade confirmations and account statements), but the rules have changed. In 2011, brokerage firms became responsible for reporting cost basis of stock purchases to the IRS. The rule applies to mutual fundpurchases and exchange-traded fund (ETF) purchases for tax year 2012 and extends to bonds, options and other securities in 2013.

So, it’s safe to shred cost basis information according to the new rules, but remember that saving cost basis information for investments that you purchased in the years leading up to the rule change is still your responsibility. For instance, if you bought a stock before 2011, you should save the cost basis information for between three years and seven years after you sell the stock. Again, following the general rule to keep it simple, save the information for seven years.

Retirement Account Information: The IRS recommends keepingseveral tax forms that relate to retirement accounts until all retirement accounts are depleted. Hold onto all Forms 5498 which will substantiate IRA and Roth IRA contributions. Save Form 8606which will help determine your tax basis for retirement plan withdrawals. Also file away all Forms 1099-R, which will show distributions from your retirement plans.

A Final Note: If you can’t find an old return or you are concerned that you didn’t save it long enough, you can request a copy of the return and attachments (including a W-2) from the IRS by using Form 4506. The IRS will charge you for this service as described in the instructions to Form 4506.

Minute-Man Tip #18:

Asset Inventory: Create an asset inventory as an important step in designing a financial and estate plan. The inventory should list the value of all assets by owner (e.g., husband, wife, joint, Trust) including bank and investment accounts, the net equity in your home, business interests, etc. To enhance your asset inventory,consider digitizing it by photographing and recording your tangible personal property (artwork, jewelry, furniture, etc.). There are online resources and smartphone applications that help simplify the digital inventory process for protection in the event of an insurance claim.