Can I Write Off Lawyer Fees as a Tax Deduction?
Decipher the complex rules for deducting lawyer fees on your taxes. Understand when legal expenses are eligible for a write-off and why.
Many individuals wonder if lawyer fees are tax deductible. While the concept of writing off legal expenses might seem straightforward, the Internal Revenue Service (IRS) rules are often intricate. Most legal fees incurred for personal matters are not deductible, but specific expenses related to a business or certain income-producing activities may qualify. The ability to deduct these fees depends heavily on the underlying nature of the legal issue.
General Principles of Deductibility
The fundamental principle governing the deductibility of legal fees hinges on the purpose of the expense. This distinction is rooted in the “origin of the claim” doctrine, which dictates that the deductibility of legal expenses is determined by the nature of the transaction or activity that led to the legal dispute, rather than the potential financial impact on the taxpayer’s income or assets.
For a legal expense to be deductible, it must be considered “ordinary and necessary” in the context of the business or income-producing activity. An ordinary expense is one that is common and accepted in your industry, while a necessary expense is helpful and appropriate for your business or income-generating endeavor.
Deductible Business and Income-Producing Legal Fees
Legal fees incurred in connection with operating a trade or business are generally deductible as ordinary and necessary business expenses. This includes costs for services directly related to running the business, such as drafting and reviewing contracts, defending against business-related lawsuits, collecting business debts, or addressing employment law issues. For example, a business owner paying an attorney to negotiate a new supplier contract or defend against a claim of breach of contract can typically deduct these fees.
Legal fees paid for producing or collecting taxable income can also be deductible. This category includes fees for professional tax advice, assistance with preparing a tax return, or representation during an IRS audit or appeal. For instance, if you hire a lawyer to help you resolve a tax deficiency or navigate complex tax planning for your business, those fees are generally deductible.
Expenses related to protecting or managing income-producing property may also qualify for a deduction. This applies to legal fees associated with managing or conserving property held for the production of income, such as landlord-tenant disputes concerning rental properties or legal issues involving investment assets. For example, a landlord incurring legal fees for an eviction proceeding or a dispute with a tenant over lease terms can potentially deduct these expenses.
A specific scenario allows for the deduction of legal fees related to collecting taxable alimony. While rare, especially for the payor after the Tax Cuts and Jobs Act (TCJA), a recipient of taxable alimony who incurs legal fees to collect those payments may be able to deduct them. This exception is narrow.
Specific Non-Deductible Legal Fees
Most legal fees incurred for personal matters are not deductible for federal income tax purposes. This broad category covers a wide range of common legal issues that do not directly relate to a trade or business or the production of taxable income. For example, legal fees associated with personal injury lawsuits, even if they result in a taxable settlement like punitive damages, are typically not deductible.
Legal fees related to divorce or separation proceedings are generally non-deductible. This includes costs for property settlements, child custody disputes, or child support matters. The only narrow exception relates to legal and accounting fees paid for tax advice specifically in connection with a divorce, provided these amounts are clearly itemized on the legal firm’s billing statement.
Fees incurred when acquiring or disposing of personal property, such as your primary residence, are generally not deductible. While these fees cannot be directly expensed, they may be added to the cost basis of the property, which can reduce any taxable gain when the property is eventually sold. This adjustment effectively lowers the profit subject to capital gains tax.
Legal fees for defending against criminal charges are typically not deductible unless the charges are directly related to a trade or business. If the criminal activity is separate from any business operations, the associated legal costs are considered personal expenses. Similarly, fees for preparing a will or for general estate planning are usually not deductible.
A significant change introduced by the Tax Cuts and Jobs Act (TCJA) of 2017 suspended most miscellaneous itemized deductions subject to the 2% adjusted gross income (AGI) limit for tax years 2018 through 2025. This suspension means that many legal fees that might have been deductible as itemized deductions under prior law, such as certain unreimbursed employee expenses or investment expenses, are no longer deductible for most individual taxpayers.
How to Claim Deductible Legal Fees
For legal fees related to a trade or business, the deduction is typically reported on Schedule C (Form 1040), Profit or Loss From Business, for sole proprietors and single-member LLCs. Business owners will enter these expenses on Line 17, “Legal and professional services,” of Schedule C. This line is for amounts paid to attorneys, accountants, and other professional consultants for services directly related to the business, such as contract negotiation, business incorporation, or business tax advice.
If the legal fees pertain to rental real estate or royalty income, they are generally deducted on Schedule E (Form 1040), Supplemental Income and Loss. These expenses are reported on the appropriate line for “Legal and professional fees” within the income and expense section for each rental property. For example, costs incurred for managing income-producing rental properties or addressing tenant disputes would be reported here.
Legal fees for tax advice or preparation are generally not deductible for most individual taxpayers as a miscellaneous itemized deduction after the TCJA. However, there are limited exceptions for “above-the-line” deductions, which reduce your gross income directly. These exceptions include attorney fees and court costs related to certain unlawful discrimination claims or whistleblower awards from the IRS for detecting tax law violations. These specific deductions, if applicable, would be reported on Schedule 1 (Form 1040).
Maintaining meticulous records is a fundamental requirement when claiming deductible legal fees. Taxpayers should keep all invoices, statements, and proof of payment from their attorneys. These records must clearly document the purpose of the legal services to substantiate the deduction in case of an IRS inquiry. Proper documentation ensures compliance and supports the claimed expenses.