Are Legal Fees Deductible on Income Tax?
The Internal Revenue Service provides general tax guidelines for taxpayers seeking to deduct their legal fees on their tax returns. Taxpayers may deduct the portion of legal fees the taxpayer spent to produce or collect taxable income and the portion of legal fees spent for tax preparation purposes. If the legal fees were not used for these reasons, the taxpayer is not entitled to a deduction for the legal fees.
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Legal Fees for Tax Advice
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Taxpayers can claim a tax deduction if the taxpayer paid a tax attorney to provide the taxpayer with legal tax advice for planning purposes. Generally, taxpayers seeking legal advice during a divorce proceeding can deduct the portion of fees allocated to tax planning and tax liabilities arising from the divorce.
Legal Fees for Divorce
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Taxpayers can deduct their legal fees if they retained an attorney to pursue alimony payments. Additionally, tax advice sought during a divorce proceeding is deductible. However, the portion of the legal fees relating to general divorce matters is not deductible. Taxpayers should only deduct the portion of the legal bills used for tax advice or to collection alimony.
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Legal Fees for Work-Related Matters
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Legal fees incurred during a discrimination proceeding or unlawful termination proceeding are deductible. Additionally, legal fees incurred to defend lawsuits for work-related situations are tax deductible. Business owners who incur legal fees to produce business income or collect business income can deduct the legal fees on their tax returns. If the business owner hires an attorney to draft contracts for the business, then the attorney fees are deductible. Business owners deduct these legal fees on Schedule C of the 1040 Form. Taxpayers can deduct the portion of legal fees spent to keep the taxpayer's job or those related to staying in business.
Schedule A and Itemization
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Taxpayers typically itemize these legal fee deductions on Form 1040 Schedule A under the category of "miscellaneous itemizations." The IRS uses a two percent floor rule allowing taxpayers to deduct their miscellaneous deductions by two percent. In other words, taxpayers can deduct the portion of their deductions that exceed two percent of the taxpayers' gross incomes. If the taxpayer's total tax deductions do not exceed two percent of the taxpayer's adjusted gross income, then the legal fees would not be deductible.
Amount of Deduction
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After the two percent floor is applied, then the taxpayer's individual tax bracket determines the amount of the deduction. For example, a taxpayer in the 40 percent bracket who spends $10,000 in attorney's fees to collect past due alimony payments can deduct $4,000 in fees. After the $4,000 is subtracted from the total fee of $10,000, the taxpayer is actually spending $6,000 in legal fees, not $10,000.
Seek Tax Advice
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Since tax laws may frequently change, you should not use this information as a substitute for legal tax advice. Seek an attorney's advice licensed to practice tax law in your jurisdiction.
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