Attorney-at-Law

THE COST OF DIVORCE

In Uncategorized on 06/11/2018 at 16:34

Sky M. Lucas, 2018 T. C. 80, filed 6/11/18, paid a bushelbasketful of legal fees in the course of disengaging from loved-once Margaret. The fight was over what part of the $47 million of distributions Sky got from his foundered investment advisory business after the investors bailed during the Great Meltdown of ’08 was up for equitable distribution. At close of play, the State court handed Margaret $7 million.

In the fight over the marital estate, Sky paid $3 million to his lawyers and allied professionals. He wants a deduction.

Judge Vasquez doesn’t give it to him.

“…whether legal fees are deductible expenses or nondeductible personal expenses depends upon whether the claim arises in connection with the taxpayer’s profit-seeking activities or his personal activities.” 2018 T. C. Memo. 80, at pp. 8-9 (Citation omitted.)

This formula is called “origin of the claim.” In the marital dissolution context, the test is “but for” the marital relationship, would the claim exist? And here it wouldn’t.

Of course, there are exceptions. Where would tax law be without exceptions?

“To be sure, a deduction for legal expenses is not necessarily precluded because the taxpayer’s underlying claim arose in a divorce action.  The regulations provide a limited exception under section 212 for divorce-related legal fees incurred for the production or collection of taxable alimony income.  The legal costs of securing rights to other forms of income are also deductible.” 2018 T. C. Memo. 80, at p. 9 (Citations omitted).

And there’s also exceptions for legal fees incurred for getting income out of a corporation owned by the taxpayer, and for resisting ex-spouse’s interference with taxpayer’s corporation.

But Sky’s case is none of the above.

Sky’s business activity was almost done when the fight started. Sky wasn’t trying to recapture taxable alimony from Margaret or trying to prevent her from interfering with his moribund investment advisory business.

Of course a Section 162 business legal fee deduction is better than a 212 production of income legal fee deduction. “A deduction of litigation costs under sec. 162(a) may be more desirable to an individual than a deduction under sec. 212. The primary advantage to a deduction under sec. 162(a), vis-a-vis a deduction under sec. 212, rests on each deduction’s effect on gross income and adjusted gross income. A deduction under sec. 162(a) is subtracted in full from gross income to arrive at adjusted gross income. A deduction under sec. 212 is subtracted from adjusted gross income to arrive at taxable income and is subject to certain floor limitations in sec. 67(a). The benefit from a deduction of litigation costs under sec. 212 may also be limited by application of the alternative minimum tax.” 2018 T. C. Memo. 80, at p. 8, footnote 8.

 

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