Many legal fees for a business are tax-deductible for a business. The general rule of thumb is that if the legal fee is related to your business in any way, it can likely be deducted on your taxes. Therefore, it’s important to keep detailed records of your legal expenses throughout the year because you may be able to write them off during tax season.
Read on for a closer look at which legal fees are considered business tax deductions and which aren’t, plus tips on how to write off legal expenses when filing your taxes.
Can Legal Fees Be Deductible for a Business?
Generally, yes. The Internal Revenue Service (IRS) allows businesses to deduct legal and professional fees if they are “ordinary and necessary” expenses for the business. This typically includes fees for legal counsel, help forming your business, and fees incurred during a court case, even if you lost the case. As long as the legal fee relates to the daily operations of your business in some way, it is likely tax-deductible.
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Common Legal Fees That Are Deductible
You may be able to deduct the following business-related legal fees:
• Attorney fees for filing and defending against lawsuits
• Business bankruptcy legal expenses
• Business incorporation expenses
• Business planning expenses
• Business tax fees
• Commercial real estate closing expenses
• Court costs and attorney fees revolving around the collection of taxable income
• Drafting and reviewing contracts
• Immigration expenses (for hiring and moving non U.S. residents to the U.S.)
• Legal fees related to criminal charges against your business
• Unlawful discrimination claims
• Whistleblower claim
What Legal Fees Aren’t Deductible?
Generally, any legal fees that aren’t related to your business are not tax-deductible. This means that all of the following common legal fees cannot be deducted from your business income:
• Divorce
• Child custody
• Personal injury
• Estate planning/will preparation
• Civil/criminal charges revolving around a political campaign
• Civil/criminal charges revolving around any personal relationships outside of work
• Legal fees related to the purchase of real estate for personal use
• Nonbusiness tax advice
• Fees related to collection, determination, or refund of taxes
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How Much Can Be Deducted?
After the first year of business, the IRS does not list a specific amount that a business can deduct. The key thing to remember is that the legal fee or lawsuit expense must be related to your business. While anything relating to money can affect a small business owner’s ability to run and manage their company, the fees likely cannot be deducted if the lawsuit is not related to the company itself.
There are, however, limitations on how much a startup can deduct — on legal and other expenses — during their first year of business (more on that below).
What Documentation Is Required to Deduct Legal Fees?
In general, you want to save all documentation related to lawsuits and legal fees in case you are audited.
Be sure that any invoices you receive from your attorneys clearly state the kind of the services that were provided. If the invoice you receive doesn’t specify the type of legal advice or counsel, you’ll want to ask the attorney to provide a more detailed invoice. That way, you’ll be able to substantiate any legal fees that you deduct on your taxes in the event of an audit.
Your business structure determines how you should go about deducting legal fees on your tax return. If you’re a sole proprietor or single-member LLC, there are tax benefits. You’ll list these expenses in the “Expenses” section of your Schedule C. If your business is a partnership or multiple-member LLC, you’ll list them in the “Deductions” section of Form 1065. Corporations put these expenses in the “Deductions” section of Form 1120.
If you have to amortize startup and organizational costs, you would include them in “Other Expenses” on your business tax return.
Can You Deduct Legal Fees From an On-Going Lawsuit?
Typically, yes, but the lawsuit must directly relate to your business. For example, if there’s a contract dispute between your company and another company, any legal fees relating to the case would likely be deductible. Whether or not a legal fee is deductible as a business expense does not depend on the outcome of a lawsuit.
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Can Small Businesses Deduct Startup Expenses?
Yes — up to a limit. If you started a business this year, any fees you paid to lawyers to help you incorporate or organize your business may be deductible. This includes fees for services performed by an attorney to help you file business registration documents with your state or prepare corporation bylaws, as well as partnership filing fees.
Typically, you can deduct up to $5,000 in business organizational expenses the year that you begin business. If your expenses were higher than that, then you will need to amortize any remaining amounts over 15 years.
Legal fees aren’t the only costs that can be deducted as a startup, however. You can also deduct up to $5,000 in startup expenses, which can include:
• Market research expenses
• Product research
• Possibly interest on a small business loan
• Cost of searching for and securing an office or workspace
• Advertising
• Wages and salaries for training
• Professional and consultant fees
• Costs associated with acquiring an existing business
• Costs of leasing a business property
• Equipment costs
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The Takeaway
Legal fees are often tax-deductible, but the fees or lawsuit must relate to your business. To deduct legal fees, you’ll need to keep any and all paperwork you receive that relates to the legal matter. Should you be audited, you want to have extensive documentation that proves your deductions are legitimate.
Also keep in mind that interest you pay on any small business financing is deductible as a business expense.
If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.
FAQ
Can you deduct legal fees if a lawsuit is ongoing?
If the lawsuit is related to your business, then you may be able to deduct the legal fees, regardless of the outcome of the suit. If the lawsuit is a personal affair, you cannot deduct the fees even if they interrupt your business’s day-to-day operations. If the line is blurry, keep detailed records of all fees and court orders and consult a tax professional.
Can you deduct tax preparation fees?
If you are self-employed or own a business, you can generally deduct tax preparation fees as a business expense. Just keep in mind that you can only claim the portion of your accountant’s fee that is attributable to preparing the business-related part of your tax return, such as your Schedule C, E, or F.
Are LLC fees tax-deductible?
Yes, any formation fees you pay to become a limited liability company (LLC) are generally tax-deductible. Some other expenses you may be able to write off include accounting fees, fees for completing your articles of organization, and LLC filing fees.
Who qualifies for the 20% pass-through deduction?
To qualify for the 20% pass through deduction, you must have what is known as a “pass-through” business. This means any income your business makes “passes through” to your personal tax return, and includes sole proprietors, partnerships, limited liability companies (LLCs), and S Corporations.
What is the maximum deduction for a small business?
After the initial startup phase, there is no limit on how much a business can deduct. However, some expenses are capped at certain percentages. Startup costs can be deducted for the tax year in which your business is up and running and earning income. You can deduct up to $5,000 of business startup costs and up to $5,000 of organizational costs. Any remaining costs must be amortized over 15 years.
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