Nonprofits should have a document management system in place to ensure accurate recordkeeping.
Poor recordkeeping can jeopardize nonprofit organizations’ tax-exempt status. Organizations must retain certain records to maintain lawful compliance with the US government to protect their status. Without certain documents, nonprofit organizations are subject to lose their exempt status and could be further penalized.
Documents related to finance and accounting, staffing and personnel, legal agreements, and organizational establishment are critical to retain. These records include official documents, like contracts and forms, but other communications containing information in the above categories, such as emails.
Beyond simply saving these documents, nonprofits with the best practices have written policies governing how to organize and manage documents along with their document retention and destruction schedules.
While written policies aren’t a legal mandate, the IRS’s Compliance Guide for Tax Exempt Organizations notes that “A tax-exempt organization should set up a recordkeeping system using an accounting method that is appropriate for proper monitoring and reporting of its financial activities for the tax year.”
Documents to retain permanently
The IRS recommends keeping financial records for as long as you may need them to document compliance with the Internal Revenue Code and until the Statute of Limitations expires on a given return, typically three years after a return is filed.
However, others recommend retaining tax documents permanently for rare cases in which a statute is extended amid an investigation, for example.
Beyond returns, the IRS recommends keeping the following permanently:
- Form 1023 application for recognition of tax-exempt status
- IRS determination letter that recognizes tax-exempt status
- Organizing documents, including articles of incorporation, by-laws, and amendments
- Board minutes
Other experts recommend also permanently retaining:
- Audit reports
- Retirement and pension documents
- Insurance records
- Tax returns
- Sales tax exemption certificates
Documents to retain for a set period
Retain employment tax documents for at least four years after the date the tax is due or paid, whichever is later, according to the IRS.
The IRS’s compliance guide also notes that “When records are no longer needed for tax purposes, an organization should keep them until they are no longer needed for non-tax purposes. For example, a grantor, insurance company, creditor, or state agency may require that records be kept longer than the IRS requires.”
Document retention practices can be more conservative than what the IRS and other legal entities require. Here are some good rules of thumb to keep in mind when it comes to keeping certain documents even longer:
Retain for 10 years
- All documentation regarding legal proceedings
Retain for minimum seven years
- Any donor, grantee, or payroll information
- All financial information
Retain for minimum three to seven years
- All recruitment and applicant information
- All employment information
- Performance reviews
Retain for minimum three years beyond life of contract
- Contracts, leases, licenses, and information about intellectual property
Other legal entities have their own requirements for organizations, and federal, state, and local laws can change retention schedules, so it is crucial for organizations to continually keep up to date, according to the IRS guide.
Risks of keeping records too long
Finally, there is a cost associated with managing large volumes of records over time. There should be guidelines in place for destroying records once they are no longer relevant. If an investigation were to occur, having excessive documents available but unrelated to the investigation can open the organization to further risk.
Ultimately, legal and financial advisors should weigh in and sign off on any policies regarding document retention and destruction so the organization’s legal standing, tax-exempt status, and ultimately its future are protected.
Lastly, there is a question on Part VII, Section B, Line 14 of the IRS Federal Form 990 that asks if the organization has a written document retention and destruction policy. These policies are not required to be in place by the IRS but since the 990 is open to public inspection, it will be known by readers of an organization’s 990 that the organization does not have these policies in place.
As always, for matters critical to your organization’s compliance, it is advised to speak with a professional. When it comes to maintaining clear and organized records, nonprofits need a systematic and specialized understanding of their finances. This is where Han Group’s tailored accounting services become essential—we are dedicated to working exclusively with nonprofit clients. Our purpose is to use our expertise in nonprofit-specific accounting to be a reliable partner to organizations as they navigate a changing landscape.
