If you've had to pay lawyers or accountants to represent you in an IRS tax audit or to help you prepare for an audit, you're eligible to claim those expenses as "miscellaneous" deductions on your income tax return. You can only claim them, however, if you itemize your deductions, and you might not be able to deduct the full amount.
IRS Schedule A, the form you use when you itemize your deductions, has places to claim the most common itemized deductions, such as medical expenses, state and local taxes, mortgage payments, charitable gifts, work expenses and casualty and theft losses. Deductible expenses that don't have their own lines on Schedule A fall into the catch-all "miscellaneous" category. IRS Publication 529 lists dozens of things that qualify as miscellaneous deductions. One of those is "tax advice fees." That covers payments to lawyers, accountants and other professionals for assistance with an audit.
A fact sheet prepared by the Boston accounting firm Feeley & Driscoll, P.C., covers the requirements that professional fees must meet to be deductible. The fees must be "reasonable," meaning they should at least be in the ballpark for what professionals in your area charge for similar services. They must be paid in the tax year for which you are claiming them, regardless of when the services were rendered. For example, if a lawyer worked on your case in October and November of 2011, the audit was in December 2011 and you paid the bill in January 2012, you could claim the deduction only for 2012. Finally, the fees can only have been paid by the person to whom the professionals rendered their services. In other words, you have to have paid the money to lawyers or accountants working on your behalf. If you pay someone else's audit expenses, you can't deduct them.
Two Percent Threshold
Even if your audit expenses are legitimate miscellaneous deductions, you won't necessarily be able to deduct the full cost. That's because the IRS only allows you to deduct miscellaneous expenses in excess of 2 percent of your adjusted gross income. For example, say you had an adjusted gross income of $45,000, you paid $2,300 to an accountant to help you prepare for an audit and you had $500 in other expenses that qualified as miscellaneous deductions. Two percent of $45,000 is $900. Your total miscellaneous expenses come out to $2,800. Subtract $900 from that figure, and you can claim miscellaneous deductions of $1,900.
If you hired professionals to assist you in an audit of your personal income taxes, then their fees are miscellaneous deductions. However, if you are a business owner and you hired those professionals to help you with an audit of your company's taxes, then their fees are simply a business expense. That makes them fully deductible against your business's gross profit; the 2 percent threshold does not apply.
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