Are Attorney Fees a Tax Deduction in Canada?

Getting into legal matters is something that nobody wants, and we all know how expensive legal fees can be. Whether it is employment disputes, tax issues, matters concerning rental properties, or business contracts, attorney (lawyer) fees can be a major expense. One of the common questions that a lot of Canadians ask is: Are attorney fees tax deductible in Canada?

Well, the answer depends on why you paid the legal fees. In certain cases, the legal fees are deductible, while in other cases, it is considered to be personal expenses and cannot be claimed. Understanding these different situations is crucial and can help reduce your taxable income and even avoid mistakes while filing your tax return.

Here’s all that you need to know.

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What Does the CRA Say?

As per the Canada Revenue Agency (CRA) rules, it allows legal fees to be deducted only if they were incurred to earn income or to collect amounts owed to you. This means that the purpose of the expense is the most important.

In cases where the legal fees are directly connected to earning employment income, business income, rental income, or certain support payments, then they may qualify as a deduction. However, personal legal expenses, such as divorce or buying a home, etc., are not deductible.

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When Are Attorney Fees Tax Deductible?

Listed below are some of the most common situations where the legal fees may be considered as a tax deduction in Canada.

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Legal Fees to Collect Employment Income

The legal fees paid to the following can be deducted –

• To collect unpaid wages or salary
• To collect compensation for wrongful dismissal
• To establish or protect your right to employment income

For example, if you hire a lawyer to sue your employer for unpaid wages or wrongful termination, the legal costs may be deductible.

However, if the legal fees related to the negotiation of a new employment contract, then that legal fee is not deductible. You can get in touch with the experts at Taxccount Canada to know more about the same.

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Legal Fees for Tax Advice or Disputes

The following legal fees are generally deductible –

• Paid to prepare or review your tax return
• Object to a CRA assessment
• Appeal for a tax decision

If a lawyer hired by you represents you in a tax dispute with the CRA, the legal costs incurred can be claimed as a deduction.

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Legal Fees Related to Business Income

For business owners, legal expenses related to earning business income are usually deductible as a business expense. For example –

• Contract disputes
• Debt collection
• Business compliance matters
• Legal advice related to operations

However, keep in mind that the legal costs related to purchasing capital property (like buying a building) are not immediately deductible. They are instead added to the cost of the asset.

If you find the process too technical to understand, it is recommended that you take professional advice. And who better than the team at Taxccount Canada?

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Legal Fees for Rental Income

Many people don’t know that landlords can deduct legal fees for –

• Collecting unpaid rent
• Evicting a tenant for non-payment
• Enforcing lease agreements

Since these expenses are directly related to earning rental income, they qualify as deductible expenses.

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Legal Fees to Establish or Enforce Support Payments

The legal fees paid to the following can be deducted –

• To establish child support or spousal support
• To enforce existing support payments

However, the legal fees paid to defend against a support claim are not deductible.

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Which Attorney Fees Are Not Deductible?

A lot of legal expenses fall under the personal umbrella and cannot be claimed. The most common ones are –

• Legal fees for divorce or separation (except for enforcing support payments)
• Child custody disputes
• Writing a will
• Purchasing a personal residence
• Fees for criminal defence

The CRA considers these personal expenses, which means they are not related to earning income, and that’s why these fees cannot be claimed.

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Capital vs. Current Expenses – Why It Matters?

Even if the legal fee is related to business or investment income, it cannot always be considered for immediate deduction. If the legal expense is related to acquiring or improving a capital asset, such as buying a property or purchasing shares, then it is considered a capital expense. And instead of deducting it immediately, you can add it to the base cost of the asset.

For example –

• Legal fees for buying a rental property – Added to the property’s adjusted base cost
• Legal fees for incorporating a business – Treated as capital costs

It is important to have this distinction because it affects how and when you will benefit from the deduction. To get a better understanding of the deductions, it is best to get professional advice from Taxccount Canada’s specialists.

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How to Claim Legal Fees on Your Return?

The way in which you claim your legal fees depends on the type of income involved –

• Employment-related legal fees
  Claimed on Line 23200 (Other deductions)
• Business legal fees
  Claimed as a business expense
• Rental legal fees
  Claimed as a rental expense
• Tax-related legal fees
  Claimed as carrying charges or other deductions

Make sure to always keep the detailed invoices and receipts from your lawyer that describe the purpose of the work performed. The CRA may request these documents to verify that the legal fees were income-related, so keep all the documents safe.

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What About Legal Settlements?

If you receive a taxable settlement (for example, employment damages), the legal fees related to earning that income are usually deductible. However, if the settlement is non-taxable, then the legal fees may not be considered tax deductible.

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Common Mistakes to Avoid

Some of the most common mistakes that taxpayers make should be avoided –

• Claiming personal divorce as deductions
• Deducting legal fees without proper documentation
• Deducting capital-related legal expenses immediately, instead of capitalizing them
• Assuming that all legal fees are deductible

Keep in mind that the purpose of the expense determines whether it is deductible or not.

This is general information only and not professional advice. Consult a professional before acting.