In civil cases arising out of business transactions, parties commonly deduct legal fees and judgments. This rule extends to punitive damage awards, an anomaly that is currently the subject of reconsideration.1 Clients in white-collar investigations frequently ask if their legal fees are likewise deductible. If the case goes badly, they will ask the same question regarding the financial aspects of any resulting judgment. As in civil cases, the deductibility of legal fees in criminal cases depends on whether the fees being paid qualify as “ordinary and necessary” business expenses under §162(a) of the Internal Revenue Code. By contrast, the deductibility of punitive financial judgments in criminal cases is more restrictive. As with most issues in the Code, however, the devil is in the details.
Deductibility of Legal Fees
The seminal case addressing the deductibility of legal fees is Tellier v. Commissioner of Internal Revenue.2 In Tellier, the plaintiff was a securities dealer who deducted legal fees paid in connection with his unsuccessful defense of securities and mail fraud charges. The Internal Revenue Service and the Tax Court rejected the deduction, but the U.S. Court of Appeals for the Second Circuit reversed.
