Legal Reguirements for Computer Records Containing Federal Tax Information: An Update
Skupsky, Donald S., ARMA Records Management Quarterly
NOTICE: This article contains information related to sensitive and important legal issues. No section of this article should be construed as providing legal advice. All legal decisions related to records and information management should be reviewed by competent legal counsel.
In previous articles, I reviewed the legal requirements related to the legal requirements for computer records,1 generally, and to tax records,2 specifically. The legal requirements related to the admissibility of computer records in evidence have remained the same since the previous article. In 1986, however, the Internal Revenue Service modified its requirements related to computer records maintained for tax purposes. Since many computer records contain taxrelated information, this regulation impacts many computer systems in the United States.
SUMMARY OF COMPUTER REQUIREMENTS FOR TAX RECORDS
Internal Revenue Service Revenue Procedure 86-19 replaced the previous Revenue Procedure 6412 (adopted in 1964) with a new procedure which became effective April 7, 1986. The requirements of this new procedure are substantially different and will necessitate modifications in some existing computer systems. The following summary highlights the key points found in this revenue procedure as contrasted with the previous one:
1. All computer records must be retained by the taxpayer in a retrievable, machine-sensible form.
Previously, taxpayers were not required to maintain the tax information in computer-readable format for review by the Internal Revenue Service. Instead, only visible tax records and audit trails were required to ensure that information was correctly processed.
Under the new regulation, the Internal Revenue Service can request your computer tapes or disks for their analysis and review. The computer-readable information, as indicated below, must therefore be fully documented and maintained in a retrievable and usable form. Even when a service bureau or time-sharing service is used, the taxpayer will still be responsible for maintaining this information as indicated.
2. Documentation must be provided describing the computerized accounting system including record formats, flowcharts, label descriptions, software program listings, software program changes maintained in chronological order, and detailed charts of accounts. Audit trails should be provided to ensure that the steps leading from detailed to summary information can be examined by IRS.
Although the wording for this new requirement is different than the previous one, the nature of the documentation requirement is similar. The reader should note, however, that the IRS specifically requires that major changes in the computer system be documented and preserved in chronological order. This means that each major version of the software programs must be retained for later IRS review. No guidelines are provided, however, to differentiate between a major and a minor software change.
3. The computer records should be retained "so long as the contents may become material in the administration of any Internal Revenue law."
The Internal Revenue Service suggests that the retention period should match the statute of limitations for federal tax purposes (generally three to six years3), but will be extended in certain circumstances such as fixed assets, insurance loss reserve, and voluntary extension of the audit period.
4. The accounting records should also be retained in visible form, either on paper or microfilm.
Although the requirement for creating a visible or hardcopy record has been preserved from the original regulation, the Internal Revenue Service stresses that the maintenance of a visible record does not replace the requirement for the retention of machine-sensible records. Microfilm may be retained in place of paper records.
5. All computer records maintained for tax purposes should be clearly labeled and maintained in a secure environment, with backup files stored off-site. …