Are attorneys' fees tax deductible?

By Jessica Suotmaa 0

Now that we’re deep into tax season after the 2017 tax reform (The Tax Cuts and Jobs Act of 2017), it’s a good time to review whether your attorneys’ fees are tax deductible.  Deducting legal fees on your tax return can help offset the high cost of hiring professional legal assistance, sometimes justifying the need for an attorney.  At Lum Law Group, we believe that proper legal advice should be readily available to even the smallest of businesses–at the right cost.  Helping our clients deduct their legal fees on their federal tax returns is just one of the ways we help our clients and potential clients save money.

 

Business Tax Deductions

The new tax laws do not prevent businesses from deducting necessary legal expenses.   Individual business owners, such as sole proprietors and single-member limited liability companies (LLC) or independent contractors can still list legal costs directly associated with their trade or business on Schedule C of the Form 1040 Individual Tax Return.  List the “ordinary and necessary” legal fees on Line 17 of your Schedule C.

Examples of “ordinary and necessary” deductible attorneys fees:

  • legal fees for negotiating, drafting, and reviewing contracts (“business expense”);
  • legal fees for researching and registering intellectual property (“business expense”);
  • legal fees for rental property management, conservation, and maintenance (“rental expense”);
  • legal fees for suing a client for outstanding invoices (“business expense”);
  • legal fees for suing a vendor for services not rendered (“business expense”);
  • legal fees for suing a tenant for rental property damage (“rental expense”); and
  • legal fees for evicting a tenant who stopped paying rent (“rental expense”).

Businesses that file partnership or corporate tax returns can deduct two types of legal expenses: the legal and professional fees associated with your trade or business, and the startup business expense for new businesses and startups.  These can be deducted under “Deductions” on the Form 1065 or Form 1120.

Examples of legal costs for startup deduction:

  • legal fees for registering your business with the state, e.g., incorporation;
  • legal fees for business consultation;
  • legal fees for preparing corporate records and bylaws; and
  • legal fees for preparing partnership and operating agreements.

Where businesses and individuals may end up paying more taxes is in settlement

Individual Tax Deductions

Where previously you could deduct up to two percent of your gross income on your individual tax return (Form 1040) by itemizing deductions, now you cannot. The new tax bill has eliminated most of the miscellaneous itemized deductions for the individual tax return.

 

Real Estate Legal Fees

While you cannot itemize and deduct your real estate related attorneys’ fees on your federal tax return, you can still reduce your overall tax liability.  You can add the legal fees associated with the purchase, maintenance, or sale of the property to the value of the property, thus increasing its value. It is not an immediate tax deduction, but it will reduce any gain on the property if you sell it later.

Exceptions

There’s always an exception or “loophole”, and in legal fee deductions it’s the legal fees in settlements associated with employment discrimination suits, especially whistle-blower cases.  However, note the legal fee deduction cannot exceed your annual gross income.

 

Business & Individual Tax-free Income

In taxes there’s credits, deductions, and then there’s tax free. What’s tax-free and requires a lawyer? Compensation from personal injury suits (no interest and no punitive charges), court awarded attorneys’ fees, and statutory attorneys’ fees.

 

Settlements Taxable

The bad news is that your settlements are now fully taxable since attorneys’ fees are no longer deductible. This means that if you win a lawsuit, or settle the case outside court, for an award of $10,000, and your attorney takes a fifty percent cut, you are liable to pay taxes on the full $10,000.

 

If you pay more than $600 in legal fees in a year, your attorney will be required to provide a Form 1099-MISC for that expense, which you can use to prepare your taxes. If you have any questions regarding a 1099 from us, or fees that can or cannot be deducted, please contact our office!