I'm a little confused.
You're the attorney. The settlement check was in your escrow account, or someone else's escrow account?
Attorney fee was paid to you or a different attorney?
Generally speaking, on the cash basis of accounting, income is generally reported when the money is received. On the accrual method of accounting, income is recorded when the right to have the income is established.
The following is a general discussion for consideration and does not constitute either legal or tax advice. Some of the information is taken from the IRS Attorneys Audit Technique Guide of March 2011
If you received the settlement check in your escrow account, and the attorney's fee was paid to you, what controlled the delay of payment out of the escrow account to you? If you just delayed paying yourself, then the income would be reported in the year you received it. If the fee you received was controlled by outside circumstances and the amount of fee to be received was not yet determinable, then the year you received the fee would be the year it would be reported.
Generally, after a case has been settled, and the settlement is
received, the attorney's fee is both determinable and available and therefore should be
included in income.
Specific Retainer
This is an agreed fee to perform services for a particular case or matter. The attorney
typically sends an engagement letter to the client explaining the terms of the fee
arrangement. The fee arrangement may be based on an hourly fee plus costs or for a set
amount irrespective of how many hours the matter takes. The attorney may also request that the client prepay a portion of their fees before the matter is accepted. This advance
payment may be deposited into a trust account with transfers made for part or all of the
money to the general account as it is earned. Generally, if the attorney is on a cash basis
of accounting, the retainer is taxable when received.
Contingent Fee
In this type of fee arrangement, the attorney earns an agreed upon percentage of the
amount of their client’s recovery (either in settlement or awarded in litigation), plus costs.
Case time is not a factor in determining the amount of the fee. The focus is on the
ultimate amount recovered for the client and what percentage the client agrees to pay the
attorney. This type of arrangement is common in personal injury cases. Attorneys
typically receive one-third of the recovery, but the contingency amount may vary
according to whether the case is settled or resolved through litigation. The total
settlement is deposited into the attorney's trust account. The attorney then has the
responsibility of disbursing the funds. The disbursements may include litigation costs, the
attorney's fee, and reimbursement to the attorney of any advanced costs. The remaining
proceeds are distributed to the client. Amounts paid to the attorney from the trust account
that do not represent advanced costs are includible in the attorney's gross income. Net fee
and gross fee contingency arrangements are discussed in more detail under advanced
client costs, below. A review of the books and records is necessary to determine if a
reimbursement payment needs to be included in gross income or if it is an offset to actual
expenses incurred.
The appropriate state licensing agency may have specific limits or guidelines regarding
the amount of contingency fees an attorney may charge.
Constructive Receipt
Income may be earned under the doctrine of constructive receipt. This is an exception to
the general rule that taxpayers on the cash basis of accounting must have actual receipt of
income before it is taxable. Income is constructively received if it is subject to the
demand of a taxpayer and there are no substantial limitations or conditions on the right to
receive it. (Treas. Reg. section 1.451-2.)
**Disclaimer: Effort has been made to offer correct information; but due to the discussion forum limitations, the poster disclaims any legal responsibility for the accuracy of the poster's response**
