Document Retention and Destruction

April 13, 2006

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Having a plan for pre-trial discovery is one way to control the risk factors in litigation.

Traditionally, attorneys have underscored the importance of maintaining written records. Written records can be used to conclusively prove certain facts, when verbal representations would be of little use. Further, without receipts, tax deductions will be met with skepticism and, thus, usually disallowed by the IRS. Similarly, there will be no proof a warranty claim was filed in a timely manner, when the claim is made over the telephone, while a letter (especially a certified letter) would be significant proof that the claim was filed within the warranty period.

Innumerable cases, in virtually every area of law, have proved the principle that documentation can make the difference in winning or losing a case. In addition, the law requires that certain records, including tax and employment records for example, be maintained for a fixed period.

Recently, however, advice has taken a different direction--business owners should avoid creating certain written records, or shred the written records immediately after they are reviewed. This advice, of course, is limited to records that might be damaging to a company should they be disclosed, for example through pre-trial discovery. This advice has arisen from experience: Requests for documents, one of the tools of pre-trial discovery, can result in the defendant producing the very evidence that the plaintiff needs to win the case.

In numerous personal injury cases, involving many different types of products--including cars, heart valves, silicone breast implants and cigarettes, among others--plaintiffs have used pre-trial discovery and, in particular, requests for documents to uncover from the defendant's own records the very evidence necessary to win a judgment in the case, or force a favorable settlement.

In many prominent cases, plaintiffs have uncovered studies, dated many years prior to the litigation, in which defendants apparently acknowledged the defective properties of their products, but concealed this information from the public to maximize profits.

For example, in one of the earliest cases that led to the trend toward the elimination of written records, Ford Motor Company was sued for injuries sustained by the plaintiff when his Ford Pinto automobile exploded into flames after a low-speed rear impact. The plaintiff alleged that the explosion was caused by the defective design of the Pinto.

Ford fought the lawsuit. However, during pre-trial discovery, the plaintiff uncovered from Ford a cost-benefit study that Ford had previously conducted involving the Pinto. The study examined the Pinto's tendency to explode into flames after a low-speed impact, blaming the positioning of the gas tank as the cause of this problem. In the study, it appeared that Ford engineers had calculated the costs of correcting the problem, through recalling and retrofitting existing Pintos, and re-engineering the design and manufacture of new Pintos. According to the plaintiff, in the study, Ford compared these costs, which were significant, to the costs of concealing the problem (essentially the settlement and judgment costs Ford would have to pay because the automobile, left uncorrected, would continue to kill and injure people).

The study appeared to conclude that, because the cost of correcting the problem would exceed the cost of doing nothing (i.e., the settlement and judgment costs), Ford should do nothing--that is, effectively conceal the problem from the public.

The jury awarded the plaintiff approximately $7 million, which included punitive damages.

Ford maintained that the study had been misinterpreted. However, even if this were true, the disclosure of the study to the jury would likely invoke outrage at Ford and sympathy for the plaintiff. In short, the forced disclosure of the study to the jury was probably the determining factor in the case, both in terms of the jury returning a judgment in favor of the plaintiff and the actual amount of damages awarded to the plaintiff.

Today, the results of this type study would likely be verbally reported and the data for the study destroyed, well in advance of any notice of litigation.

Today, a sound practice is to verbally report any findings that may be damaging to the business, in the event of future litigation. Any written records (including computer records) generated should be destroyed, before any issues arise.

As discussed below, the small business owner must take into account the fact that records may exist not only in paper form, but also in paperless form, on a computer's hard drive or disks. Special care must be taken with respect to e-mail and computer files, in general. The small business owner also should avoid creating these records, or be sure they are effectively destroyed (see below).

This emphasis on verbal reporting and document destruction should not be interpreted too broadly. It should be confined to those situations where the underlying information would be damaging to the business, if disclosed.

In particular, several warnings are in order concerning verbal reporting and document destruction:

Documentation of transactions between the owners and their business entity represents an important asset protection strategy. It forms an important basis that can prevent piercing of the veil of limited liability.
Further, as noted above, federal and state statutes require that certain records, such as employment records, be maintained for a fixed period. In addition, prudence dictates that other records (e.g., tax receipts) be maintained. Documentation is essential for tax purposes to sustain a deduction or to prove that certain receipts were from nontaxable sources.
In many cases, the law is silent on the period of time for which records must be retained, but in the absence of a fixed statutory period, the recommended period should coincide with the expiration of the statute of limitations. For example, income tax records should be retained indefinitely, as an IRS allegation of fraud has no statute of limitations.
Document destruction that occurs after notice of a lawsuit is received, or even after an event (e.g., an accident) occurs, may be a criminal offense. Verbal reporting and document destruction should be an ongoing asset protection policy. As is true with asset protection strategies in general, planning in advance of a crisis is required.
Technically, in a civil action, a party could be subpoenaed to testify about a study, record or report. This testimony might include questions concerning information from a verbal report or a written record that was destroyed. Clearly, a party with this information has a legal obligation to testify truthfully. In practice, however, where a record or report was generated many years before the litigation, the parties involved in the record or report may be unavailable, or their memories related to the record or report may not be so clear. Thus, truthful testimony may not be damaging.
The small business owner should be aware that records might be stored on computer hard drives, floppy disks, zip drives and other data storage devices. These records may include data damaging to the business, in the event of litigation.
Even when this data is "deleted," computer specialists can sometimes retrieve the data. Mere deletion usually does not actually eliminate the data. Instead, when files are deleted, the computer's operating system no longer maintains an association with the data, and considers the space it occupies as available for new data. However, after "deletion," the data remains on the storage device.
Formatting a storage device, such as hard drive or floppy disk, should eliminate the data. Further, software exists that purportedly eliminates all remnants of data.
In addition, when a computer is discarded, the hard drive should be physically destroyed to prevent recovery of data. Of course, when a computer is to be sold or traded, this is not possible. In this situation, the recommendations discussed above should be followed.
Of course, with respect to information that may harm a company, the simplest and most effective strategy is to avoid creating a computer record in the first place.