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Ask Wendy Reed Your Own Question
Wendy Reed
Wendy Reed, Enrolled Agent
Category: Tax
Satisfied Customers: 3346
Experience:  15+ years tax preparation and tax advice.
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14,217.07 will be paid to me by HGVC Hilton, to settle out

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14,217.07 will be paid to me by HGVC Hilton, to settle out of court, a civil suite I filed against them in 4/2009 for Fraud in the Inducement, and Negligent Misrepresentation. There are no injuries involved and the amount represents only return of monthly payment made by me dating from the beginning of the suite till now. Most of that will go to my lawyer and the balance doesn’t even begin to cover my personal expanses involved in pursuing the suite. Will I have to pay taxes on any of it and also can I claim any of my expenses encored?

Thank you for giving me the opportunity to assist you. I will give the best answer that I can with the information provided.

 

In order to determine what part of the award is taxable--you have to determine what the award is for---or how it is allocated.

 

Generally, awards for physical injury-medical, etc, are not taxable, and most other awards are.

 

However, if the award is compensatory, meaning that you are recovering funds that you spent (and did not deduct this amount previously) in relation to business or personal part of your tax return...the the compensation is a refund of cost and not taxable. Sometimes awards contain punitive damages (meant to punish) and the punitive portion of the award is definitely taxable.

 

Once you find out what portion of the award is taxable and not taxable, attorney fees are prorated between them to find out what you can and cannot deduct. For example, if your award was for $20,000, and $10,000 was punitive and $10,000 was compensatory----and your attorney fees were $6000, then $3000 would be deductible because this corresponds to the taxable portion of the award.

 

For an in depth review of taxable and not taxable for lawsuits and settlements see:

http://www.irs.gov/pub/irs-mssp/a9lawsut.pdf

 

There are a lot of great examples.

 

Also, a more general summary can be found here:

http://www.wwwebtax.com/income/legal_settlements_court_awards.htm

 

Customer: replied 6 years ago.

Since this is an "out of court" settlement, the amount of $14,217.07 is not defined in the statement as to what it represents.

It is stated only as: Hilton shall pay $14,217.07 to Meyers' counsel, payable to: "Trust Account of Peters Trial Group, LLC."

Again there were no injury or punitive damages alleged in the suite nor being collected for.

Customer: replied 6 years ago.

Since this is an "out of court" settlement, the amount of $14,217.07 is not defined in the statement as to what it represents.

It is stated only as: Hilton shall pay $14,217.07 to Meyers' counsel, payable to: "Trust Account of Peters Trial Group, LLC."

Again there were no injury or punitive damages alleged in the suite nor being collected for.

What information, and in what form, will we need to provide the government with so they can make its determination on what is taxable, and what (if anything) can be declared a tax deduction?

I'll answer your questions out of order--it will make it a little easier to organize my posting.

 

1. You can only deduct attorney/legal costs that are involved or specifically for obtaining taxable income. As in the previous example, if 1/2 your award was taxable and 1/2 your award was not, then 1/2 of your legal fees (if the legal fees are not specified as to what hours were spent on what part of the case) would be deductible. Legal fees of this type would be taken as a miscellaneous deduction, subject to 2% gross income limitation, on Schedule A of you tax return, unless this is a business related case--and then the deduction would go on Schedule C or other business return form.

 

2. An out of court settlement, as noted in the brochure that I linked you to, is a bit more difficult than a court decided case to determine as to what the settlement represents...since the amount of the settlement is usually not detailed or broken into categories.

 

I would ask the payer if they will be issuing a 1099MISC form to report the payment. This is a tax reporting form, and generally whatever is on the 1099, the IRS will look at as taxable unless you can show otherwise.

 

I would also use the facts and discussion on pages 2-3 to 2-4 in the IRS booklet I linked you to...because it discusses how facts and circumstances of each case will determine what is and is not taxable, and how a settlement should be allocated.

 

For example (and I have no idea what your case is about---analyzing it would be beyond th scope of my expertise as I am not an attorney)---Suppose you spent 10,000 on a product or service that was not delivered or made good on. You sued the company. The settlement that you were eventually rewarded was for $15,000. IN this case, you could presume that 10,000 was compensatory,(a refund of your expense and not taxable) and $5,000 was punitive.(taxable).

 

I would report the income you decide is taxable based on the facts and circumstances of your case, and keep all of your documentation related to your original suit and settlement to back up your case if the IRS questions your amounts reported and your deduction for legal expense.

 

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