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Deduct payment of court settlement?

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    Deduct payment of court settlement?

    My client was a partner in a business which was sold in 2008. A couple years later, the business tanked and the buyers began to bring suit against just about everyone- their landlord, vendors, and of course, the partners who sold them the business. The suit against my client and his partners involved misrepresentation of the financial health and profitability of the business. The suit is scheduled to go to trial, but my client just settled out of court for around 30K and the case against him has been dismissed with prejudice (meaning it's over with once and for all and can't be re-litigated). He has legal fees and the settlement, all paid in full. I believe all of these costs are deductible, probably on a Schedule E, but would appreciate any feedback anyone can provide. Thank you.

    #2
    Payment out of court settlement

    It's not clear from your post - WHO took out the suit - just your client or the partnership?
    Who accepted out of court settlement - just your client or the partnership?

    Look at TTB P. 4-28
    Uncle Sam, CPA, EA. ARA, NTPI Fellow

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      #3
      Originally posted by Uncle Sam View Post
      It's not clear from your post - WHO took out the suit - just your client or the partnership?
      Who accepted out of court settlement - just your client or the partnership?

      Look at TTB P. 4-28
      I'm only aware of my client settling, I believe the other partners have decided to go to trial.

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        #4
        A few of my clients have done similar things ... settled lawsuits or threats of lawsuits after selling a business, including businesses that were operated as partnerships.

        In most cases the correct place to report and deduct the settlement costs is on Schedule D ... starting on F-8949, of course. The sale of the business was probably reported on Schedule D, so the payback of some of the selling price should be reported there as well. Describe the "transaction" as "Settlement of lawsuit re: sale of business" or similar wording.

        If the original sale resulted only in ordinary income, it might be correct to report the sale on Schedule E as a UPE. It depends on the nature of the income reported in the year the business was sold.
        Roland Slugg
        "I do what I can."

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          #5
          Sch A with 2%

          Apparently the last associated income to be reported was in 2008 and possibly 2009 at best. The sale of the business was presumably reported in either of those years on a Sch D.

          If the settlement occurred in 2016, there is no income to apply it to. An extreme viewpoint might be that legal expenses themselves are not in pursuit of income and therefore non-deductible. If deductible, they would be on Sch A with a 2% income reduction.

          I'm assuming most of the $30K are not legal expenses. Sch E stopped reporting income years ago, so I do believe the only place to deduct would be on Sch D/8949. And even so, there would be no associated revenue/gains to report on that line item.

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