When are legal fees deductible?
In most cases, the need to seek out and obtain legal services (and to pay for them) is associated with life’s more unwelcome occurrences and experiences — a divorce, a dispute over a family estate, or a job loss. About the only thing that mitigates the pain of paying legal fees (apart, hopefully, from a successful resolution of the problem that created the need for legal advice) would be the ability to claim a tax credit or deduction for the fees paid.
Unfortunately, while there are some circumstances in which such a deduction can be claimed, those circumstances don’t usually include the routine reasons — purchasing a home, getting a divorce, establishing custody rights, or seeking legal advice about making a will or managing a family estate — for which most Canadians incur legal fees. Generally, personal (as distinct from business-related) legal fees become deductible for most Canadian taxpayers only where they are seeking to recover amounts which they believe are owed to them, particularly where those amounts involved employment or employment-related income or, in some cases, family support obligations.
The first situation in which legal fees paid may be deductible is that of an employee seeking to collect (or to establish a right to collect) salary or wages. In all Canadian provinces and territories, employment standards laws provide that an employee who is about to lose his or her job (for reasons not involving fault on the part of the employee) is entitled to receive a specified amount of notice, or salary or wages equivalent to such notice. In many cases, however, the employee can establish a right to a period of notice (or payment in lieu) greater than the statutory minimum. The amount of notice or payment in lieu of notice which is payable can then become a matter of negotiation between the employer and its former employee, and such negotiations usually involve legal representation and consequently, legal fees. In that situation, legal fees incurred by the employee to establish a right to amounts allegedly owed by the employer are deductible by that former employee. If a court action is necessary and the Court requires the employer to reimburse its former employee for some or all of the legal fees incurred, the amount of that reimbursement must be subtracted from any deduction claimed. In other words, the former employee can claim a deduction only for legal fees which he or she was personally required to pay in order to collect wages or salary owed and for which he or she was not reimbursed.
In some situations, an employee or former employee seeks legal help in order to collect or to establish a right to collect a retiring allowance or pension benefits. In such situations, the legal fees incurred can be deducted, up to the total amount of the retiring allowance or pension income actually received for that year.
The rules covering the deduction of legal fees incurred where an employee claims amounts from an employer or former employer are relatively straightforward. The same, unfortunately, cannot be said for the rules governing the deductibility of legal fees paid in connection with family support obligations. Those rules have evolved over the past number of years in a somewhat piecemeal fashion — the current rules are as follows.
Legal fees incurred by either party in the course of negotiating a separation agreement or obtaining a divorce are not deductible. Such fees paid to establish child custody or visitation rights are similarly not deductible by either parent. As well, no fees are incurred to equalize family assets.
Where, however, one former spouse has the right to receive support payments from the other, there are circumstances in which legal fees paid in connection with that right are deductible. Specifically, legal fees paid for the following purposes will be deductible by the person receiving those support payments:
establishing the amount of support payments from their current or former spouse or common-law partner;
establishing the amount of support payments from the legal parent of their child (who is not their current or former spouse or common-law partner) where the support is payable under the terms of a court order;
seeking an increase in support payments;
defending against a reduction in support payments;
collecting late support payments; or
requesting that child support payments be non-taxable.
On the payment side of the support payment/receipt equation, the situation is not nearly so favourable, as a deduction for legal fees incurred will not generally be allowed to a person paying support. More specifically, as outlined on the Canada Revenue Agency (CRA) website, a payer of support “cannot deduct legal and accounting fees incurred to establish, negotiate, contest, reduce or terminate the amount of support payments”.
Finally, where the CRA reviews or challenges income amounts, deductions, or credits reported or claimed by a taxpayer for a tax year, any fees (which in this case includes accounting fees) paid for advice or assistance in dealing with the CRA’s review, assessment, or reassessment, or in objecting to that assessment or reassessment, can be deducted by the taxpayer. A deduction can similarly be claimed where the taxpayer incurs such fees in relation to a dispute involving employment insurance, the Canada Pension Plan, or the Quebec Pension Plan.