What other form you attach to your Form 1040 depends on whether you are an employee or are self-employed:
If you’re self-employed: You deduct travel on line 24a and the deductible portion of meals and entertainment expenses on line 24b of Schedule C.
If you’re employed by someone else: You must use Form 2106, Employee Business Expenses, or 2106-EZ.
For example, if you are paid a salary with the understanding that you will pay your own expenses, you claim these expenses on Form 2106 and then carry over the amount from line 10 of Form 2106 or line 6 of Form 2106-EZ to Schedule A (line 20) of your Form 1040, where the amount is claimed as an itemized deduction. Form 2106 also allows you to claim travel and entertaining costs that exceed your travel allowance or the amount for which you were reimbursed.
If you received a travel allowance, your employer adds the amount of the allowance to your salary, and it will be included in box 1 of your W-2. So if you received a travel allowance of $10,000 and spent $10,000, the $10,000 isn’t completely deductible because it’s reduced by 2 percent of your AGI. For example, if your income is $100,000, you can deduct only $8,000 ($10,000 minus 2 percent of $100,000) of your travel expenses. If your income exceeds $139,500, or $69,750 if you are married filing separately, a portion of these deductions is reduced again.
Instead of getting an allowance, have your employer reimburse you for actual expenses that you submit on an expense report. You won’t have to file Form 2106, and you won’t have to pay tax on the money that you never earned and lose part of your deductions due to silly rules like the 2 percent rule. Neat, huh?
Line 21: Tax preparation fees
You can deduct the fees paid to a tax preparer or advisor! You may also deduct the cost of being represented at a tax audit and the cost of tax-preparation software programs, tax pub- lications, and any fee you paid for the electronic filing of your return. You can also deduct travel expenses when you have to go to a tax audit. This is probably one deduction you wish you weren’t entitled to.
Fees paid to prepare tax schedules relating to business income (Schedule C), rentals or roy- alties (Schedule E), or farm income and expenses (Schedule F) are deductible on each one of those forms. The expenses for preparing the remainder of the return are deductible on Schedule A. That way, more of the fee is deductible, because most of it isn’t subject to the 2 percent of AGI rule.
Line 22: Other expenses — investment,
safe-deposit box, and so on
You may be scratching your head as to how the IRS can throw in a line item here called “other expenses,” when we’re within the miscellaneous deduction category. The expenses that are most likely to help you on this line to build up to that 2 percent hurdle are fees you incur in managing your investments. Here’s a rundown of deductible investment expenses:
Accounting fees to keep track of investment income. Financial periodicals.
Investment expenses of partnerships, S Corporations, and mutual funds. (You will receive a Schedule K-1 that will tell you where to deduct those expenses.)
Investment fees, custodial fees, trust administration fees, and other expenses you paid for managing your investments.
Investment fees shown in box 5 of Form 1099-DIV. Safe-deposit box rentals.
Trustee’s fees for your IRA, if separately billed and paid.
You can’t deduct expenses incurred in connection with investing in tax-exempt bonds. If you have expenses related to both taxable and tax-exempt income but can’t identify the expenses that relate to each, you must prorate the expenses to determine the amount that you can deduct.
One of the benefits of having so many lawyers in the United States is that when you hire one for a variety of personal purposes, you may qualify to write off the cost. For example, you can deduct a legal fee in connection with collecting taxable alimony and for tax advice related to a divorce if the bill specifies how much is for tax advice and if the bill is determined in a rea- sonable way.
Part of an estate tax planning fee may be deductible. That’s because estate planning involves tax as well as nontax advice. A reasonable division of the bill between the two usually sup- ports a deduction for the portion attributable for tax advice. Legal costs in connection with contesting a will or suing for wrongful death aren’t deductible. The same goes for financial planner fees that you pay. The part that applies to tax advice is deductible.
You may deduct legal fees directly related to your job, such as fees incurred in connection with an employment contract or defending yourself from being wrongfully dismissed. You can deduct legal expenses that you incurred if they are business related or in connection with income-producing property.
As a result of the recent unanimous Supreme Court decision in Commissioner vs. Banaitis, you must declare the full amount of any taxable settlement you receive as income, and then deduct your attorney’s fees (including any contingency fee, where your attorney is paid a percentage of the settlement) as a miscellaneous itemized deduction subject to the 2 percent AGI rule. Unfortunately, doing it this way will probably trigger the Alternative Minimum Tax (See Chapter 8), and the taxpayer will likely end up owing tax on the full amount of the settlement, not just the portion that he or she actually ends up with after paying attorney costs.
If you receive a taxable settlement, for age discrimination or sexual harassment for example, and part of the settlement reimbursed you for medical expenses you incurred to alleviate the symptoms of emotional distress, make sure the settlement agreement accounts for the medical expenses separately. That way you can deduct the medical expenses from the set- tlement and pay tax on only the net amount.
A legal fee paid to collect a disputed Social Security claim also is deductible to the extent that your benefit is taxable. For example, suppose you paid a $2,000 fee to help collect your Social Security benefits. If 50 percent of your Social Security is taxable, you can deduct $1,000 (50 percent of the fee).