Because of the different tax treatment of operating expenses (deductible for the AGI under section 162) compared to most employment-related expenses (deductions from the AGI and limited to the 2% rule of the section 67 AGI), taxpayers have sometimes argued that legal fees are business expenses rather than employment-related expenses. Is there justice with respect to the deduction of legal fees? It depends on your point of view. Some legal fees are currently deductible, others need to be capitalized, and still others offer no tax benefit. Let`s take a closer look at the tax treatment of different types of legal fees. As a general rule, legal costs incurred for the acquisition of property or the defence or protection of property must be capitalized and added to the «base» of the property. This may allow you to claim depreciation deductions over a period of time or reduce your taxable profit if the property is sold. Similarly, legal fees incurred in connection with the purchase of a personal apartment are added to their base. If the home is sold, legal fees can reduce taxable profit. Example 4: R&P incurred legal fees to dispute the amount their insurance company offered them when their personal residence was destroyed by fire. They managed to get the highest damages (for replacement value) they claimed and profited from the destruction. R&P cannot deduct lawyer`s fees under section 212 for the purpose of generating income. The argument that replacement value insurance was a separate financial arrangement from homeownership will fail because home and home insurance are linked (without the house, there would be no insurance).
The origin of the claim is the house. Costs related to the acquisition or disposal of an asset should be capitalized. Legal fees incurred to increase the insurance premium are capital expenditures under s. 263 and result in a lower capital gain.10 Section 263 requires that expenses related to improvements or increases in the value of real property be capitalized (not recorded as an expense). For example, attorneys` fees paid for defending or perfecting ownership of real estate should be added to the basis of ownership rather than deducted.2 Offit Kurman PA advises clients on the creation, enhancement and protection of intellectual property, including tax aspects and the implications of these transactions. The views expressed herein are solely those of the author, are not intended or do not constitute legal or tax advice. The origin of rights test meets certain fundamental principles of good tax policy. As the Court stated in Gilmore, «if the relative impact of a claim on a taxpayer`s income-generating resources were to determine deductibility, the rule would contain significant uncertainty and unfairness.» 29 The classification of lawyers` fees on the basis of the origin of a claim, rather than on the basis of the assets which must be protected, tends to lead to taxpayers being treated in a similar manner and to increase the objectivity of the law. A recent Tax Court decision dealt with the deductibility of legal fees and the so-called «origin of debt» doctrine. The Mylan judgment shows that the deductibility of a legal expense generally depends on the origin and nature of the underlying claim or transaction giving rise to the legal protection.
An exit, such as Legal fees may be deductible in one environment, but still need to be capitalized in another. Legal fees directly related to (or related to) the taxpayer`s commercial activity are deductible under the C.I.R. Section 162 as ordinary and necessary business expenses, while expenses arising from the acquisition, improvement or ownership of real property are capital expenditures under section 263(a) of the I.R.C. and are currently not deductible. Individuals have the added complication of determining whether deductible expenses for the AGI (above the line) or AGI (bottom line) are deductible. The preferential treatment of AGI deductions has given rise to numerous legal disputes. Section 62 treats expenses attributable to a trade or business carried on by an individual as deductible for AGI purposes; However, this treatment does not apply to costs arising from services provided as employees. An exception to the employee rule allows for higher treatment of employee expenses reimbursed if they are paid under a reimbursement or expense allowance agreement (a responsible plan).1 Thus, it is not necessary to fund capitalized legal fees, which are defined in s. 162 are deductible for AGI, while legal expenses related to employment or income generation (§ 212), if deductible, are deductible by AGI (as individual deductions), subject to the limitations of Article 67.
In contrast, in the banks, 23 of the taxpayers won their case (until the government won at the Supreme Court level). The government had argued that under the doctrine of «predictive income transfer»,24 taxpayers could not attribute their income to someone else. However, the Court of Appeals relied on the 25-year-old decision in Cotnam, in which the court found that state law granted the attorney appropriate privilege or interest in both the claim and an arbitral award. Thus, the taxpayer could not obtain the part of the award that constituted the award of the lawyer`s contingency fees.