Can I deduct professional services like legal and accounting fees?

by | Jun 6, 2025 | Business Taxes, Deductions & Write-Offs

Here’s what HIVE AI had to say about “Can I deduct professional services like legal and accounting fees?”:

Yes, you can generally deduct professional services like legal and accounting fees as business expenses, but the deductibility depends on several key factors including the nature of the services, the context in which they were incurred, and whether they meet the requirements for business deductions under federal tax law.

General Framework for Deducting Professional Services

There shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business IRC § 162(a) , which forms the foundation for deducting professional service expenses. The Code does not specifically list legal and other professional services expenses as deductible items. Therefore, a taxpayer’s ability to deduct these types of expenditures depends upon the context in which they are paid or incurred. Deductions for amounts paid for legal and other professional services will generally depend on whether the expenses were “ordinary and necessary” and paid or incurred in carrying on a trade or business. Dawson U.S. Tax Court Opinions: Gary Frederick Roy

The key requirement is that professional service expenses must be “directly connected with or pertaining to the taxpayer’s trade or business” Dawson U.S. Tax Court Opinions: Gary Frederick Roy to qualify for deduction. This connection test is fundamental to determining whether legal and accounting fees are deductible business expenses.

Legal Services Deductibility

Business-Related Legal Services

A taxpayer may deduct legal services expenses if the origin of the claim in the proceeding is related to the taxpayer’s trade or business or the production of income and was not primarily personal. Dawson U.S. Tax Court Opinions: Gary Frederick Roy This “origin of the claim” test is crucial for determining deductibility and was established by landmark Supreme Court cases.

The regulations provide specific guidance on how legal fees should be allocated: Legal and accounting fees and expenses. Fees and other expenses for legal and accounting services are ordinarily definitely related and allocable to specific classes of gross income or to all the taxpayer’s gross income, depending on the nature of the services rendered Tresuary Reg. 1.861-8 . This means that the deductibility often depends on what specific services the attorney provided and how those services relate to your business activities.

Examples of Deductible Legal Services

The Tax Court has provided examples of deductible legal services in various contexts. In one case involving an employee, Mr. McGuigan’s testimony, which the Court found credible and forthright, establishes that he sought legal advice on avoiding trade secret infringement after an oil company representative advised him to do so. More specifically, the oil company was MDS’ client, and MDS expected Mr. McGuigan to bear the cost of his employment-related expenses. As a result, Mr. McGuigan paid $1,500 and $2,500 in 2014 and 2015, respectively, to protect his employment as an oil Dawson U.S. Tax Court Opinions: Bradley M. McGuigan & Shirley W. McGuigan industry consultant, which were found to be deductible.

For business owners, legal fees related to business operations, contract disputes, regulatory compliance, and other business matters are generally deductible. Petitioner reported professional service expenses relating to her acting business for each year at issue. Specifically, for tax year 2013 petitioner reported $440 in legal expenses, $235 in accounting expenses, and $1,325 in fees to a business management company, and for tax year 2014 she reported $420 in legal expenses and $9,645 in fees to a business management company. We conclude that some, but not all, of the reported professional services expenses are connected with petitioner’s acting activity, and therefore are properly deductible. Dawson U.S. Tax Court Opinions: Gayle Gaston Dawson U.S. Tax Court Opinions: Gayle Gaston

Non-Deductible Legal Services

Certain types of legal services are not deductible as business expenses. Legal fees. You can’t deduct legal fees paid to defend charges that arise from participation in a political campaign. IRS – Publication 529: Miscellaneous Deductions Additionally, legal fees that are primarily personal in nature, even if they have some business connection, may not be deductible.

Accounting Services Deductibility

Business Accounting Services

Accounting services are generally more straightforward to deduct when they relate to business operations. Include on this line fees charged by accountants and attorneys that are ordinary IRS – Instruction 1040 (Schedule C): Instructions for Schedule C (Form 1040), Profit or Loss From Business and necessary business expenses. This includes fees for bookkeeping, tax preparation, financial statement preparation, and other accounting services directly related to your business.

The IRS specifically recognizes certain accounting expenses as deductible. For rental property owners, Legal and other professional fees. You can deduct, as a rental expense, legal and other professional expenses Schedule E, Part I. For example, on your 2024 Schedule E, you can deduct fees paid in 2024 to prepare Part I of your 2023 Schedule E. You can also deduct, as a rental expense, any expense (other than federal taxes and penalties) you paid to resolve a tax underpayment related to your rental activities. IRS – Publication 527: Residential Rental Property (Including Rental of Vacation Homes)

Mixed Personal and Business Accounting

When accounting services cover both personal and business matters, proper allocation is required. In one Tax Court case, On Schedule C, petitioner reported “Legal and professional services” expenses totaling $44,967. The parties agree that petitioner paid $10,867 to an accounting firm for the preparation of her personal federal tax return for tax year 2017, as well as amending certain other federal and state tax returns, bookkeeping for the jail food account, handling a teleconference with the Alabama Department of Revenue, and testimony before a grand jury Dawson U.S. Tax Court Opinions: Ana M. Franklin . This demonstrates that when services are mixed, you must separate the business portion from the personal portion.

Capital vs. Current Expense Considerations

An important distinction must be made between current deductible expenses and capital expenditures. Whether legal fees are deductible expenses under § 212, or are capital expenses under § 263, requires an examination of the origin of the claim giving rise to the legal fees. That analysis requires that prior transactions be examined in order to determine if a cause of action originates from an ordinary or capital event. PLR-141552-15

Legal and accounting fees related to acquiring assets, starting a business, or other capital transactions may need to be capitalized rather than deducted immediately. However, IRC 195 – Allows a taxpayer to elect to deduct a limited amount of start-up expenditures (which may include legal and other professional fees) and amortize the balance over 180 months. IRS – Publication 5558: Activities Not Engaged in for Profit Audit Technique Guide Internal Revenue Code Section 183

Substantiation Requirements

Proper documentation is essential for claiming deductions for professional services. For 2014 and 2015, respectively, petitioners claimed deductions of $1,500 and $2,500 for legal and professional services. Respondent disallowed these deductions in full for lack of substantiation. Dawson U.S. Tax Court Opinions: Bradley M. McGuigan & Shirley W. McGuigan This case illustrates the importance of maintaining adequate records.

The Tax Court has emphasized the importance of substantiation: It is clear that a complaint was filed against petitioner with the Oklahoma Bar Association. Petitioner retained counsel, and the canceled checks for the attorney’s fees were provided to petitioner’s accountant. Petitioner also provided documents to his accountant supporting the rest of his claimed legal and professional services expenses. And petitioners’ 2009 Form 1040 reflected those legal and professional services expense receipts shown to petitioners’ accountant. Dawson U.S. Tax Court Opinions: Brenda K. Smiling & A. Mark Smiling

Special Considerations for Different Business Structures

Bankruptcy Estates

For businesses in bankruptcy, special rules apply. The estate may deduct any administrative expenses allowed under Bankruptcy Code 503. This includes the debtor’s accounting, legal, and other professional service expenses necessary to preserve the estate and paid by the estate. IRS IRM 4.8.2 Case Processing

Investment-Related Services

For investment-related professional services, Fees for services of investment counsel, custodial fees, clerical help, office rent, and similar expenses paid or incurred by a taxpayer in connection with investments held by him are deductible under section 212 only if (1) they are paid or incurred by the taxpayer for the production or collection of income or for the management, conservation, or maintenance of investments held by him for the production of income; and (2) they are ordinary and necessary under all the circumstances, having regard to the type of investment and to the relation of the taxpayer to such investment. Tresuary Reg. 1.212-1

Allocation and Apportionment

When professional services relate to multiple activities or income sources, proper allocation is required. For example, accounting fees for the preparation of a study of the costs involved in manufacturing a specific product will ordinarily be definitely related to the class of gross income derived from (or which could reasonably have been expected to be derived from) that specific product. The taxpayer is not relieved from his responsibility to make a proper allocation and apportionment of fees on the grounds that the statement of services rendered does not identify the services performed beyond a generalized designation such as “professional,” or does not provide any type of allocation, or does not properly allocate the fees involved. Tresuary Reg. 1.861-8

Practical Guidelines for Deducting Professional Services

To ensure your professional service expenses are deductible, follow these guidelines:

Document the Business Purpose: Maintain clear records showing how the legal or accounting services relate to your business operations. The connection between the services and your business activities must be demonstrable.

Separate Business from Personal: When professional services cover both business and personal matters, allocate the costs appropriately and only deduct the business portion.

Maintain Proper Records: Keep invoices, contracts, and payment records that clearly describe the services provided and their business purpose.

Consider Timing: Determine whether the expenses should be deducted immediately or capitalized and amortized over time based on the nature of the services.

Apply the Origin Test: For legal services, consider whether the origin of the legal matter relates to your business operations or income-producing activities.

In summary, legal and accounting fees are generally deductible as business expenses when they are ordinary and necessary expenses directly connected to your trade or business. The key is establishing the business connection, properly allocating mixed-use services, and maintaining adequate substantiation. Capital expenditures may need to be treated differently, and specific rules apply to different types of businesses and situations.

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