GENERAL - RECORDKEEPING
"This section contains additional data that supplements basic information contained in
Your Money Matters
and should be used in conjunction with the material contained in Your Money Matters."
SETTING YOUR RECORDS STRAIGHT
Suppose your doctor tells you that you need to have major surgery within the next week and that the operation will be followed by a lengthy period of recuperation. Will your personal records be organized well enough to allow your spouse or a friend to take charge of your financial affairs on short notice? For many people, the answer is no. As modern life grows more and more complicated, we correspondingly accumulate greater numbers of personal financial documents. Yet too many of us never get around to putting our records in order. This is a big mistake. And the problems don't simply involve the possibility that you may be out of commission for a while. Poor record-keeping ends up complicating your financial life and may well cost you money — for example, in lost tax deductions.
Good record-keeping is valuable for at least two reasons. First, by making your financial documents easily accessible, you will save time. Admittedly, setting up a record-keeping system will take a while, especially if your records are extremely jumbled. Once your system is "up and running," however, you will no longer have to spend two hours hunting for a canceled check to prove a disputed bill. Nor will you have to rifle through innumerable drawers in order to find a medical receipt.
Second, the process of organizing your records and documents is an excellent way to reacquaint yourself with some of the more neglected areas of your lifetime personal financial planning. In organizing your legal documents, for instance, you might find that neither you nor your spouse ever updated your powers of attorney — even though you each assumed that the other had. Organizing your records will allow you to find out where you stand — which is essential to planning for the future.
A good record-keeping system is an indispensable component of sound personal financial management. If you have not developed sound record-keeping habits because you are not aware of how simple an effective record-keeping system can be, then read on! The advantages of having a good record-keeping system are clear:
Good record-keeping saves time in retrieving important information, such as insurance policies, brokerage advices,tax information, and other financial documents.
You will be better able to recognize problems that require attention.
A well-organized filing system eases the stress of family emergencies, particularly incapacity or an unexpected death.
Record-keeping serves a dual function in tax planning. It eases the process of preparing tax returns, whether you do your own or have a tax professional prepare them, and it assures the availability of support information should the IRS audit your returns. An informal accounting system — which may consist only of a checkbook — should be maintained if you have a large number of deductible items. Recording all your expenses in your checkbook or elsewhere allows you to record more deductions and to avoid an end-of-the-year marathon tax-return-preparation session.
A filing system for receipts and pertinent papers is also helpful. Finally, a notebook or appointment calendar that records miscellaneous deductible items (such as charitable contributions and unreimbursed business expenses) helps you keep track of deductions that might otherwise escape your memory.
The IRS does not require specific types of records, but it does require that taxpayers keep "adequate, contemporaneous records" of their deductible expenses. For example, a taxpayer must keep adequate records to support the portion of automobile usage deducted for business purposes. Receipts and logbooks of automobile usage, calendars of appointments and activities, accounts of home computer use for business purposes, and other pertinent records should be maintained carefully and kept up to date in order to minimize conflicts with the IRS.
You must keep records that support an item of income or a deduction on a return until the statute of limitations on the return runs out — usually three years from the filing or due date. Some records must be kept for longer periods of time. For example, in many transactions involving real estate, including your home, improvement made to property can change the basis of that property for purposes of computing capital gain or loss for income tax purposes. Therefore, you should keep receipts of home improvements you make to your house or rental property for as long as you own the property.
A good record-keeping system is one that is (a) complete enough to be effective and (b) simple enough that you will use it regularly. In general, the more complicated a system is, the less likely it is to be used regularly. The majority of commercially sold record-keeping systems are either too complex or too generalized for most people's needs. If you are a genuine computer enthusiast, buy a software program that allows you to put your personal records on-line. Be forewarned, however, that the vast majority of home record-keeping software sits at home collecting dust.
Every good record-keeping "system" has three main components:
A safe-deposit box
An active file kept at home
An inactive file kept at home or in storage
In addition, you may want to keep some documents at your attorney's office, with copies kept in the home active file. Both spouses, as well as at least one other adult family member, should know where these files are located, their basic contents, and the logistics of the family accounting system.
Home active and inactive files do not need to be particularly fancy. You really don't need a fireproof safe — desk drawers, a filing cabinet, or simple cardboard boxes work just as well. Reserving a separate manila folder for each category of documents or papers should suffice. The easier the setup is to use, the more likely it is that you will sustain an interest in and profit from record-keeping.
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Your safe-deposit box should contain such personal papers as birth certificates and Social Security records, ownership papers like bond certificates and deeds, contract papers like insurance policies, and estate-planning papers like wills.
Keep two considerations in mind when renting a safe-deposit box. First, appoint a deputy who has the power to open the box if you are incapacitated or otherwise unable to open it yourself. Second, keep a duplicate copy of your estate-planning documents outside the box, in case it is sealed upon your death.
It is sometimes necessary for each spouse to have a separate safe-deposit box because, depending on the state in which a couple resides, a jointly owned box might be sealed following the death of one spouse, just when the other needs to retrieve documents or valuables. The home active file should contain an inventory of all safe-deposit box contents, updated whenever necessary. In fact, it is often wise to keep photocopies at home of important documents stored in the safe-deposit box — at least those for which there are no other records.
If you store valuables in your safe-deposit box — jewelry, for example — obtain a floater on your homeowner's or renter's insurance policy to insure the contents of the safe-deposit box against loss. Most people don't realize that if their safe-deposit box is robbed or its contents damaged, items contained in the box are usually not insured by the bank.
The main purpose of the home active file is to keep track of personal papers and important contractual obligations, and to help in preparing your current year's tax returns. The active file should also include tax working papers for the last three years, since the IRS can freely audit a return for that period. (In fact, three years is a useful time frame for holding most other papers as well.) The home active file should contain a range of documents, from bank statements and recently canceled checks to loan statements and payment books to income records. In short, all papers pertaining to current matters should be kept in the active file.
The accessibility of your active file is important if it is going to be useful. Otherwise, you'll end up postponing filing items. You should try to file bills, warranties, bank statements, and other records as they come in, or collect them all together in one location and sort them periodically for filing.
Because the active file needs to be easily accessible, it should be located in a convenient and pleasant location like a den. If the file is squirreled away in a dank basement or a stifling attic, you will be less likely to use it. If you use a desk with several drawers or a file cabinet, you could reserve each drawer or section of a drawer for a specific class of documents; one for estate-planning documents, for example, one for insurance records, one for current bills, and one for investment-related materials such as prospectuses and brokers' statements.
The main purpose of the home inactive file is to prove past tax returns. It should contain important papers — formerly in the home active file — that are over three years old. In certain instances, the IRS can examine tax returns going back more than three years, although after six years most people can safely discard their records.
A few other items should also be kept in your inactive file. Invoices and canceled checks pertaining to any home improvements should be kept until the home is sold. Brokerage advices (receipts of buy-and-sell transactions) should also be kept to substantiate capital gains and losses. You may also want to keep important personal papers that are not currently needed in the inactive file, such as family health records and proof that major debts and other contracts have been discharged. Some people keep canceled checks indefinitely, because they can be used to substantiate expenses long after other records have been discarded.
You may also want to keep old tax returns as a matter of curiosity — to show your great-grandchildren that it was once possible to live on less than $100,000 per year. At the present rate of inflation they'll probably be earning $100,000 per month!
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