Tax-Deductible Legal Fees

Certain legal fees incurred in pursuing claims for child support or spousal support payments are tax-deductible. If you practice family law in Canada, you owe a duty to clients pursuing such relief to help them obtain this deduction. In my view, all clients with such claims deserve a letter from their lawyer which can be submitted to the Canada Revenue Agency in support of the deduction.

Providing letters outlining recipients’ spending on fees related to support may be standard practice in some jurisdictions, but, speaking from a Saskatchewan perspective, the practise is far from universal. Suggesting that this become standard practice may be unpopular with lawyers already stretched for resources and time, yet the reality is these letters are clearly in the interests of most clients.

Sections 3.78 to 3.84 of Income Tax Folio S1-F3-C3 state that legal fees and accounting fees, which may be incurred if expert advice is required, incurred in making claims related to obtaining child support or spousal support may be claimed at Line 221 of the T1 personal Income Tax and Benefit Return:

1. establishing the amount of child support and spousal support payable;
2. applying to increase the amount of support payable;
3. defending against an application to reduce the amount of support payable;
4. applying to collect arrears of support; and,
5. applying to make pre-Guidelines child support payments non-taxable.

Moreover, the amount of any deduction must be reduced to reflect any award or reimbursements obtained by the recipient in connection with the claim, such as costs orders. As well, note that the tax deduction is only available to recipients of support; no deduction is available to payors defending claims for child support or spousal support. (Note that Income Tax Folio S1-F3-C3, effective on 24 November 2015, replaces Interpretation Bulletin IT-530R, the previous definitive authority on the deductibility of legal fees relating to support.)

Preparing tax letters requires some work by the lawyer to distinguish fees incurred relating to support issues and deduct any costs awarded in relation to the same. Of course, this poses some risk of liability in the event of a CRA audit on the assessment of legal fees claimed as a deduction, and may require the lawyer to spend non-billable time to justify the deduction.

Some of this burden can mitigated by implementing a process for identifying tax deductible fees and ensuring that letters are automatically sent out to clients following the end of tax year.

Our office has a policy requiring all lawyers to print out a ledger, sorted by client name, of fees received in the previous calendar year. Lawyers review the ledger and estimate the portion of each client’s fees that are attributable to pursuing claims for child support and spousal support, keeping in mind they will need to justify their apportionment of fees if called upon to do so by the CRA. Depending on the accounting software utilized by your office, creating such a ledger should not be a daunting task.

As an example of this process, say a client spent $5,000 on legal fees in 2018 to obtain a divorce and final orders on custody, parenting time, child support, spousal support and property division. If roughly equal time was spent on all six of these issues, one-third of her fees could be estimated as relating to support, resulting in deductible fees of $1,667, from which would be deducted one-third of the amount of any costs ordered. (However, it is rarely the case that each head of relief requires an equal amount of time to address. Counsel should carefully consider how each case was managed before determining the portion of the client’s fees that may be deductible.)

There are other ways of estimating the deductible amount of clients’ fees. For example, staff can prepare tax letters from a client list compiled by all lawyers. Such a list should be comprised of entries containing:

• Client name and contact information
• Legal fees paid by that client in the given tax year (Total$)
• Apportionment of those fees relating to pursuit of support (Apportionment%)
• Amount of costs agreed to or ordered (Costs$)
• A calculation of the apportionment of the costs relating to pursuit of support (Total$ less Costs$, multiplied by Apportionment%)

Once the above list is compiled, a generic letter can be prepared and sent out by simply filling in blanks. For example:

You may be entitled to deduct the legal fees you spent in 2018 pursuing your claim for child support and/or spousal support.

In 2018, you paid Total$ in legal fees, which must be offset by the amount of costs you received, Costs$.  In my opinion, approximately Apportionment% of the net amount related to pursuit of support, resulting in total deductible legal fees of $.

You may wish to speak with an accountant with respect to claiming this deduction at Line 221 of your 2018 income tax return.

Including a disclaimer limiting your liability, in the event your apportionment is challenged by the CRA, is prudent. It is also prudent to prepare client letters in the expectation that you will be challenged, and required to justify, your assessment.

Other ways of limiting liability include:

1. advising clients of the amount of the total amount of legal fees paid and leaving them to assess the amount spent on claiming child support or spousal support;
2. having a second time system in place to track of time spent on claiming support;
3. being conservative in apportioning the amount of fees attributable to claiming support; and,
4. clearly stating in your letter that it is difficult to estimate the time spent on claiming support as the legal issues in family law cases are typically intermingled.

Family law lawyers should prepare tax letters whenever a client may be entitled to tax deductible fees relating to claiming child support or spousal support. Writing these letters is a part of our duties to our clients and should be standard practice throughout the profession, regardless of the time they take to prepare.

Beau Atkins CEO and founder of Evolve Family Law

Article originally appeared in The Canadian Bar Association member section 2019