Should my business keep paper or digital records (or both)?

What must every record do, whatever it is kept on?

IRS regulations, as Rev. Proc. 97-22 restates them, require every person subject to income tax, except farmers and wage-earners, to keep books and records sufficient to establish the amount of gross income, deductions, credits and other matters on a return, kept available at all times for inspection by authorized IRS officers or employees. IRS Publication 583 says your books must show your gross income, deductions and credits, and that all requirements that apply to paper books and records also apply to electronic storage systems that maintain tax books and records. Where a law requires a record of a transaction in or affecting interstate or foreign commerce to be kept, 15 U.S.C. 7001, part of the federal E-SIGN Act, says an electronic record meets that requirement if it accurately reflects the information and remains accessible to all persons entitled to access it by statute, regulation or rule of law, for the required period, in a form capable of being accurately reproduced for later reference, subject to exceptions covered below.

Together these give five tests for any arrangement: complete, legible, unaltered, retrievable, and available to everyone entitled by law to see the record, the IRS among them.

Does the IRS accept electronic records as your business's records?

Yes, on conditions. Rev. Proc. 97-22 says records kept in an electronic storage system that meets its requirements constitute records under section 6001 of the Internal Revenue Code. It covers imaging paper documents or transferring computerized records to electronic storage media, and sets these conditions:

• Transfer. The transfer is accurate and complete, and the system indexes, stores, preserves, retrieves and reproduces the records.
• Controls. Reasonable controls ensure integrity, accuracy and reliability, and prevent and detect unauthorized creation, addition, alteration, deletion or deterioration of records.
• Checking. An inspection and quality assurance program, evidenced by regular evaluations, includes periodic checks of stored records.
• Index. Retrieval works through an index protected by reasonable controls; one functionally comparable to a reasonable paper filing system is enough.
• Legibility. Records show a high degree of legibility and readability on screen and on paper.
• Audit trail. Stored records are cross-referenced to give a trail between the general ledger and the source documents.
• Documentation. You keep complete descriptions of the system, its procedures and its index, available to the IRS on request.
• Examination. At an examination or an IRS test of the system, you retrieve and reproduce records, including paper copies if requested, and provide the hardware, software, personnel and documentation needed.
• Access. No contract or license limits or restricts the IRS's access to and use of the system.
• Each system. Every system you use must comply, and records in one whose hardware and software you stop maintaining are treated as destroyed unless they remain available to the IRS in conformity with Rev. Proc. 97-22.

Rev. Proc. 97-22 adds that using a third party such as a service bureau for the system does not relieve you of these responsibilities. IRS Publication 583 warns that a non-compliant system may bring penalties unless you continue to keep your original paper books and records in a way that lets you and the IRS determine your correct tax.

Does it matter whether a record arrived on paper or was born digital?

A document received on paper raises two questions: whether converting it is worth meeting those conditions, and whether its original matters. Discarding the paper original afterwards is a separate question with its own IRS conditions. A born-digital record, such as an emailed invoice, needs no conversion; only storage and continuity arise.

Accounting-software data can also fall under Rev. Proc. 98-25, which covers machine-sensible records: data in an electronic format intended for use by a computer. It applies to a business with assets of $10 million or more at the end of its taxable year (a controlled group of corporations, as defined in section 1563, counts as one, with all members' assets combined), and to a smaller one if some required information is not in its paper books but is available in machine-sensible records, if such records were used for computations that cannot reasonably be verified or recomputed without a computer, or if an IRS District Director has notified it that it must keep them. It also applies, whatever the assets, to a controlled foreign corporation, a 25 percent foreign-owned domestic corporation or a foreign corporation engaged in a U.S. trade or business that keeps machine-sensible records in a computerized accounting system, and to some insurance companies. Where it applies, Rev. Proc. 98-25 requires, among other things, that the records reconcile with the books and return, carry transaction-level detail, be documented, and be available on request and capable of being processed: retrieved, manipulated, printed on paper and output on electronic media.

Which documents can matter as physical originals?

Under 15 U.S.C. 7001, where a law requires such a record to be provided, available or retained in its original form, or attaches consequences to not doing so, an electronic record that passes the test above satisfies it. 15 U.S.C. 7003 takes these out of section 7001: the first two to the extent a record is governed by the law named, the other three outright:

• Records governed by law on creating and executing wills, codicils or testamentary trusts, or by state law on adoption, divorce or other family matters
• Records governed by the Uniform Commercial Code as in effect in any state, other than two general sections and Articles 2 and 2A
• Court orders or notices, and official court documents (including briefs, pleadings and other writings) required to be executed in connection with court proceedings
• Notices of cancellation or termination of utility services; of default, acceleration, repossession, foreclosure or eviction, or the right to cure, under a credit agreement secured by, or a rental agreement for, a primary residence; of cancellation or termination of health insurance or benefits or life insurance benefits (excluding annuities); or of a product recall or material failure that risks endangering health or safety
• Documents required to accompany any transportation or handling of hazardous materials, pesticides or other toxic or dangerous materials

Under 15 U.S.C. 7003, a federal regulatory agency can, after notice and comment and a published finding, apply section 7001 to any of these classes for matters it regulates, so check that agency's rules for classes you hold.

For an excluded class, the law governing the document decides whether the original matters, and the commercial code is state law. In Virginia's, an instrument is a negotiable instrument, called a note if it is a promise (Code of Virginia § 8.3A-104). Under § 8.3A-309, someone who no longer has an instrument is entitled to enforce it if stated conditions about the loss are met; they must then prove its terms and their right to enforce it, and the court may not enter judgment unless the person required to pay is adequately protected against loss from another person's claim.

To find the classes that reach your business, work through these steps in order:

1. List each document you hold that was signed in ink or issued as a single original, such as notes payable to you, vehicle titles, share certificates, warehouse receipts, bills of lading, court orders or trust papers.
2. Mark each one that falls in an excluded class.
3. Check each marked or doubtful one, and any document whose original-form requirement comes from state law, against your state's law or the issuing body's official guidance, or ask a lawyer licensed in your state.
4. Ask each party that may later want it, such as a lender, insurer or titling office, whether it will require the original.
5. Keep the original of anything not yet settled.

The result is a short list of exceptions inside the policy, not a reason to keep everything on paper.

Who else can set the form of your records?

The IRS is one, through the examination condition above. Lenders and insurers can be others: 15 U.S.C. 7001 does not require any person, other than a government agency for records other than its own contracts, to agree to use or accept electronic records, so read your loan documents and policies for how records must be kept and produced.

For a federal award subject to 2 CFR part 200, section 200.336 says the agency or pass-through entity and the recipient or subrecipient must, when practicable, collect, transmit and store award information in open and machine-readable formats (a format in a standard computer language, not English text, that a computer system can read automatically), and that on request the agency or pass-through entity must provide or accept paper versions. The recipient need not create and keep paper copies when original records are electronic and cannot be altered, and may substitute electronic versions of paper originals only if the procedures get periodic quality control reviews that ensure safeguards against alteration and that records stay readable by a computer system.

If you hold a license, a government contract or grant, or money belonging to clients or others, settle the governing requirement first: license conditions and board rules, the contract's records clause, the award terms, and any trust or escrow account rules. Where one sets a medium, format, location or production method for a class, it controls that class. Check before choosing, not at the first request, when converting an archive costs most.

How do paper and digital compare for your business?

Weigh six criteria by how much each matters to your business:

US-CERT's Data Backup Options notes that with cloud storage you may become locked into one provider.

If the business is remote or multi-site, or someone off the premises keeps the books, weight availability most heavily: a paper-only class is out of reach for anyone not in the room. For each class that must stay on paper, give the outside party a scanned working copy, labeled as such, while the paper stays the record.

What does a sensible hybrid look like?

A hybrid is a rule, not a habit: each class gets one medium that holds the record everyone relies on, and the other medium, if used at all, holds only a backup or working copy that the policy labels as such. Keeping everything twice doubles filing and storage, and when copies differ nobody knows which governs.

What backup does each medium need?

Rev. Proc. 97-22 leaves records management to the business's discretion, but lists creating back-up copies, an off-site storage location and testing to confirm records integrity among its recommended practices. A second copy is a backup only if the event that destroys the first cannot reach it.

For digital records, US-CERT's Data Backup Options recommends the 3-2-1 rule: keep 3 copies of any important file (1 primary and 2 backups), on 2 different media types, with 1 copy offsite. It warns that a drive holding both primary and backup files can lose both if damaged, stolen or corrupted. CISA's #StopRansomware Guide recommends offline, encrypted backups and regular tests of their availability and integrity in a disaster recovery scenario, because many ransomware variants try to find and delete or encrypt accessible backups. A copy in the same cloud account, a synced folder or anywhere the same login reaches is therefore not independent. Keep at least one copy offline, connected only while a backup runs, and restore a sample record from it on a schedule.

For paper, the failure is a single location: one fire, flood or leak takes the whole set, with nothing to restore. A scan held elsewhere can serve as its backup, stored and backed up like any digital record. For an original-artifact class the scan protects the information but not the original, which also needs protected storage.

Who can reach the records, and how is access taken away?

Paper is reached by whoever can open the room or cabinet. The FTC's guide Protecting Personal Information tells businesses to store paper files containing personally identifiable information in a locked room or locked file cabinet, and to limit access to employees with a legitimate business need. Taking access away means recovering keys: keep a list of keys issued, count the returns against it, and change the lock if any key is unaccounted for.

Digital records are reached by whoever has a login, from anywhere. Give each person a login limited to the classes they need. The FTC guide suggests considering multi-factor authentication, says to terminate passwords when workers leave or transfer, and says to put security expectations in writing in contracts with service providers.

The owner holds the administrator login, and its recovery email and phone, for every storage account, with the backup account on a separate recovery email and phone, so removal never depends on the person leaving. At the moment someone's access is meant to end, the owner removes their login and changes any password they knew. Removing access does not recall files already downloaded to that person's own devices, so give outside parties only the access their work needs, turn off downloading and printing where the system allows it, and treat anything they could see as something they may have kept.

How do records stay readable for as long as you keep them?

Paper decays. The National Archives' guidance on preserving family papers says to keep the temperature below 75 degrees Fahrenheit and relative humidity below 65% to prevent mold growth and reduce insect activity, but not below 15%, which can cause brittleness. It also advises storing items out of damp basements, garages and hot attics.

Digital records can fail quietly: the files survive but nothing can read them. US-CERT's Data Backup Options notes that floppy and ZIP disks became obsolete because the drives that read them are no longer produced. IRS Publication 583 says that when you replace paper books and records you must maintain the electronic storage systems for as long as they are material to the administration of tax law, and the last Rev. Proc. 97-22 condition above applies.

Check that each class's files still open at least once a year, as the Library of Congress's personal digital archiving guidance advises for document files. The Library's guidance also advises creating new media copies every five years or when necessary to avoid data loss; do that for the offline backup drive, Set A below.

How do you write the policy down and move what you already hold?

Write one page someone else could follow: for each class, the medium that holds the record, where its backup lives and any original-artifact exception. In this example for a small firm with an outside bookkeeper, Set A is an encrypted drive kept off the premises and connected only while a backup runs, plus a second storage account only the owner can sign in to. The backup account has its own password and a recovery email and phone used for no other account, and it is not signed in on the devices used day to day.

To move what you already hold onto the policy, work in this order:

1. Inventory existing records by class and medium, including boxes, old drives and past software.
2. Set a start date from which new records follow the policy.
3. For each older class, decide whether it stays in its current medium, backed up and readable, or is converted; a conversion that makes the image the record must meet Rev. Proc. 97-22.
4. Export or convert the contents of any system before it is retired, and confirm the copies open and still meet Rev. Proc. 97-22's index, legibility, audit-trail and documentation conditions and, for records under Rev. Proc. 98-25, can still be retrieved, manipulated, printed and output electronically.
5. Run the original-artifact steps before any paper leaves your control.
6. Date the policy and review it when a system, lender, license or award changes.

How long each class is kept, whether scanned paper may be discarded, how to scan, which product to use and how to name files are separate questions.