As a landlord you are running a business by renting out property, and it is therefore important that you keep detailed and organized records of your rentals. Many of these records will be used for tax purposes, though they can be helpful in any number of scenarios down the road, such as in potential future legal disputes with tenants.
Paper vs. Electronic
The first thing to decide when organizing your filing system is whether you will use paper records, or whether you would prefer using electronic files. Using a paper system such as a ledger can be simpler, and you may be more confident going this route if you do not have a good working knowledge of bookkeeping software programs. However, if you are comfortable tracking income and expenses on a spreadsheet or through personal finance software, it can be more efficient to store your records digitally. Small business accounting software can be more expensive, but has more capabilities and can produce more detailed reports. Note that for some important documents, such as your property deed, insurance policies, and mortgage loan documents, it can be advisable to keep physical copies locked in a fireproof filing cabinet, safe, or box.
Most small landlords have not formed a separate business entity for their rental properties and do not have employees, so they report their rental income and expenses on IRS Form 1040 Schedule E. This requires having detailed records not only of your income and expenses, but also of any supporting documentation for those items. Having well-organized business records not only makes it easier to file your taxes, but in the event that you are audited, it can help you avoid a lot of headaches and financial losses. Generally speaking, the IRS can audit your returns from up to three years ago, or up to six years ago where there is a suspicion of income underreporting. You must keep separate records for each property if you own more than one, not only as a matter of good business practice, but also because you must prepare a separate Schedule E for each one. It will help you maximize your deductions to keep detailed records of all expenses related to your rental property, such as repairs, insurance, legal fees, and property management costs.
Your records for each property will ideally include files for each tenant, where you will have copies of all lease or rental agreement documents, security deposit and rental payment records, move-in and move-out checklists, complaints, damage to the property, repairs, and any other relevant information from an individual tenancy. Again, having this sort of information readily accessible can be very helpful in heading off or prevailing in future disputes regarding repairs, security deposits, and other issues. Keep in mind that in storing a tenant’s sensitive financial information, such as that obtained from a credit report, you must comply with federal laws requiring you to securely store and dispose of that information, whether it is in paper or digital form.