are legal fees i incurred in a lawsuit deductable against the amount i was awarded? or is it subject to the 2% floor?

  • We received a settlement of $10,000, but paid about $7,000 in legal fees direclty related to the settlement.  It would seem to me that i should only have to pay taxes on the net of $3,000.  But if the legal fees are subject to the 2% floor, then my deduction will be next to nothing and i will have to pay taxes on the full $10,000.  That doesn't seem fair.  Is there another way to account for this other than schedule A?
There is no other way to deduct non-business legal fees.
You can deduct certain expenses as miscellaneous itemized deductions on Schedule A 
(Form 1040). You can claim the amount of expenses that is more than 2% of your adjusted gross income. 

Deductions subject to the 2% limit are discussed in the three categories in which you report them on Schedule A (Form 1040).

  • Unreimbursed employee expenses (line 21).

  • Tax preparation fees (line 22).

  • Other expenses (line 23).

    Examples of unreimbursed employee expenses are listed next. The list is followed by discussions of additional unreimbursed employee expenses.

    • Business bad debt of an employee.

    • Education that is work related. (See chapter 27.)

    • Legal fees related to your job.

You can deduct the items listed below as miscellaneous itemized deductions. They are not subject to the 2% limit. Report these items on Schedule A (Form 1040), line 28.

List of Deductions

Each of the following items is discussed in detail after the list (except where indicated).

  • Amortizable premium on taxable bonds.

  • Casualty and theft losses from income- producing property.

  • Federal estate tax on income in respect of a decedent.

  • Gambling losses up to the amount of gambling winnings.

  • Impairment-related work expenses of persons with disabilities.

  • Loss from other activities from Schedule K-1 (Form 1065-B), box 2.

  • Losses from Ponzi-type investment schemes. See Losses from Ponzi-type investment schemes under Theft in chapter 25.

  • Repayments of more than $3,000 under a claim of right.

  • Unrecovered investment in an annuity.

    You cannot deduct personal legal expenses such as those for the following.

    • Custody of children.

    • Breach of promise to marry suit.

    • Civil or criminal charges resulting from a personal relationship.

    • Damages for personal injury, except for certain unlawful discrimination and whistleblower claims.

    • Preparation of a title (or defense or perfection of a title).

    • Preparation of a will.

    • Property claims or property settlement in a divorce.

    You cannot deduct these expenses even if a result of the legal proceeding is the loss of income-producing property.

  • Thanks so much for the answer.  But it still hurts.  It doesnt make sense that gambling losses are deductible against winnings, not subject to the 2% floor, but legal expenses incurred with a settlement reward are subject to the floor.  Turns out my fees were $8k, my settlement was $10k and i have to pay $3k in tax.  In all, it cost me $1k to right a wrong.  Should not have persued the suit.
Unless the legal fees are for a business they are only deductible as miscellaneous itemized deductions subject to the 2% of AGI threshold. 
  • that doesnt seem fair.  Why would they not be directly deductable against the settlement amount?

You may not be able to deduct the attorney's fees at all:

Regardless of why you need an attorney, you're going to have to pay for the lawyer's legal services. Can you take a tax deduction for those attorney's fees? Usually not, but there are some exceptions.

General Rules

The general rule is simple enough: You can deduct attorney's fees you pay for:

  • Trying to produce or collect taxable income, or
  • To help in determining, collecting or getting a refund of any tax

In simple terms, you can take a deduction if you need an attorney's help to make money you have to pay taxes on, or if an attorney helped you with a tax matter, like representing you in an IRS audit. If the legal fees are somehow connected to taxes or taxable income, you can take a deduction.

    Subject to 2% floor; See

    Note: If you do a word search on "fair" at the above link (or any other IRS Pub), you'll get very few hits ...
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