You may deduct legal fees paid to attorneys and fees paid to other professionals for "ordinary and necessary" expenses of your business, including expenses for helping you start your business.
Legal and Professional Fees for Business Startup
When you are starting a business, keep track of all your costs while you are investigating business possibilities, creating the business, and setting up your organization. You will then need to separate costs for startup vs. organization.
Organizational costs include fees for services performed by an attorney to help you organize your business, before the end of your first tax year. These fees are considered capital expenses, not operating costs, and they must be amortized (spread out) over a specific number of years. An example would be an attorney's fee for helping you filing business registration documents with a state and preparing corporation bylaws.
Operating costs for startup are those you would be able to deduct if you were operating the business. Startup legal fees could be for helping you review contracts, hire executives, or travel to negotiate purchase of a business.
You can deduct up to $5,000 of startup costs and $5,000 of organizational expenses in your first year of business; additional startup and organizational costs must be amortized,
Legal and Professional Fees on Your Business Tax Return
Where you include these fees depends on whether they are deducted or capitalized.
In most cases, you will be deducting these fees as part of your normal business activities. Here's where you would include these deductions on your business tax return:
- For sole proprietors and single-member LLCs, show these expenses in the "Expenses" section of Schedule C
- For partnerships and multiple-member LLCs, show these expenses in the "Deductions" section of Form 1065
- For corporations, show 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.
If you aren't sure which line of your return to use, check with your tax professional or use an online tax software program.
Including legal and professional fees on your tax return is more difficult than it looks, because some of these expenses must be depreciated or amortized. Check with your tax professional or use an online tax software program.
Reporting Payments to Attorneys and Professional Advisors
Reporting payments to attorneys is complicated. Starting with the 2020 tax year, payments to attorneys may be reported on one of two forms, depending on the type of payment:
Fees paid to an attorney or other legal service provider of $600 or more are reported on Form 1099-NEC (Box 1). These are the payments for legal services, whether they are paid as a retainer or fee.
Gross proceeds to an attorney are reported on Form 1099-MISC (Box 10). These are payments made to an attorney that are not for legal services, but, for example, as in a settlement agreement.
Report payments to accountants and other professionals if you paid that person or firm $600 or more in deductible fees in a year. Use Form 1099-NEC to report these payments. This form is given to people you pay but who are not employees.
You must give the form to the recipient and file the form with the iRS by January 31, after the end of the tax year.
Before you complete a 1099-MISC or 1099-NEC form for an attorney or other professional, you must have this person complete a W-9 form. This form lists the recipient's tax ID number and information about the name and address.
You Can't Deduct Personal Payments to Professionals
Fees paid to attorneys or other professionals for personal advice, personal taxes, personal investments or retirement planning or personal legal services are not deductible business expenses
If you have tax preparation fees for both your business and personal taxes, you'll need to separate the cost between the two portions of your return. For example, Schedule C for business income is part of your personal tax return if you own a small business. You can deduct the cost for a tax professional to prepare your Schedule C, but not the cost of preparing the rest of your personal tax return.
Use your business checking account or business credit card to pay for the business portion and your personal account for the personal portion.
If the business and personal work are not so easily separated, you should estimate what percentage of the work is business-related, and pay only that percentage from your business account.