19.16 Costs of Tax Return Preparation and Audits

You may deduct on Schedule A your payment of fees charged for the services listed below, subject to the 2% AGI floor.

  • Preparing your tax return or refund claim involving any tax;
  • Preparing and obtaining a private IRS ruling, including IRS filing fees; and
  • Representing you before any examination, trial, or other type of hearing involving any tax.

Tax preparation fees include the cost of tax publications and tax preparation software programs. Deductible tax preparation expenses also include fees paid to electronically file your return. The term “any tax” covers not only income taxes but also gift, property, estate, or any other tax, whether the taxing authority be federal, state, or municipal.

Tax practitioner’s fees.

Deductible fees for services of tax practitioners are claimed on Schedule A as miscellaneous itemized deductions (subject to the 2% AGI floor) on the tax return for the year in which the fee was paid. For example, if in March 2012 you paid an accountant to prepare your 2011 return, the fee is deductible on your 2012 return.

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image Planning Reminder
Allocate Fees for Tax Advice
There have been disputes over the deductibility of fees charged for general tax advice unconnected to the preparation of a return or a tax controversy. A deduction for fees charged for general tax advice not within these areas may be disallowed, unless the fee can be related to the production of business or investment income or the management of income-producing property (19.16).
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You deduct fees related to preparing Schedule C or F (and related business Schedules) on the Schedule C or F, thereby avoiding the 2% AGI floor on Schedule A. In one case, the Tax Court allowed a Schedule C deduction for a $55 tax preparation fee claimed by a self-employed lumberjack, although nonbusiness income was also reported on his return. Any allocation to the nonbusiness income would have been minimal. The Court noted that the IRS’s position in disallowing the deduction reflected misguided zeal and was not only petty but impractical.

If you report rental or royalty income or loss on Schedule E, you deduct the allocated tax preparation fee on Schedule E.

An accountant’s fee for arranging the purchase of real estate was deductible where the purchase was part of a plan to cut taxes; see the Collins Example below.

Personal checking account fees.

These are nondeductible, even though the checks are used for tax records. Similarly, the per-check fee on an interest-bearing NOW account is nondeductible. However, fees charged on a bank money-market account may be deductible if check writing is severely limited and writing excess checks forfeits the status of the account as a money-market account.

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image Filing Tip
Deducting the Cost of This Book
The purchase of J.K. Lasser’s Your Income Tax in 2012 may be claimed as a miscellaneous expense deduction on your 2012 return. The cost, when included with other miscellaneous expenses, is subject to the 2% AGI floor. If you purchase the book in 2013, include the cost with your other miscellaneous expenses on your 2013 return.
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Appraisal fees.

Appraisals for determining a casualty loss or charitable donation are miscellaneous expenses.

EXAMPLES
1. Stockholders of a closely held corporation negotiated with a publicly held company for a tax-free exchange of their stock. An accounting firm asked the IRS for a ruling to determine whether the exchange would be taxable or tax free. The accounting fee was $8,602. Of this, $7,602 was for the ruling and $1,000 was for fixing the basis of the new stock. The stockholders deducted the full fee, which the IRS disallowed because the fee was not charged for the preparation of a tax return nor for representation at a contest of a tax liability.
The Tax Court disagreed in part. The fee paid for the ruling was deductible; it was connected with determining the extent of the stockholders’ liability, if any, in the proposed exchange. But a deduction could not be allowed for the $1,000 charged to determine the basis of the new stock. This was computed for the stockholders’ information, not for determining tax liability. The disallowed fee could be added to the cost basis of the stock.
2. Collins paid an accountant $4,511 for tax advice to reduce his tax on a sweepstakes winning. He was advised to buy an apartment house under a contract obligation to make a large prepayment of interest (which was deductible under prior law). The accountant helped prepare contracts, escrow agreements, and other documents to implement the plan. Collins’s deduction of his accountant’s fee was disallowed. The IRS held that the fee was a capital expense in acquiring the property. The Tax Court disagreed. The accountant was hired to minimize Collins’s income tax through the purchase of the building and the terms of the purchase. Therefore, his fee was deductible.
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