As a lawyer, you'll receive your legal fees in nonemployee compensation.
If you are an attorney or lawyer, you'll be responsible for paying taxes on your legal services. 1099 legal fees do not get tax withheld from them so you'll need be reporting non-employee compensation taxes on your own.
The Internal Revenue Service and tax laws are particularly stringent with law firms and attorneys because they typically handle their client's money and are normally high-income earners.
If you fail to report a Form 1099 to the IRS, you'll receive a tax audit notice to pay the missing taxes. Form 1099-NEC and 1099-MISC are major sources of information for the IRS.
In this guide, we'll go over everything from reporting requirements, estimated payments, self-employment taxes you'll owe, business expense deductions, and more.
There were recent reporting requirement changes made in 2020, so we'll break those down first.
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Gross Proceeds Paid Should Be Reported On...?
There are two tax forms you'll typically deal with as a lawyer, the 1099-MISC and 1099-NEC. 1099 forms are used to report miscellaneous income to the IRS. This would include nonemployee compensation, rents, royalties, prizes, and awards.
You only have to report legal fees made from generating taxable income or running your business. You should especially report the income if you plan to claim a tax deduction for the attorney fees.
Typically, IRS 1099 Forms are not required to be sent out to limited liability companies (LLC) taxed as an C or S corporation. This does not apply to legal services. Payments to lawyers will be reported on a tax Form 1099-NEC or Form 1099-MISC even if they are an Limited Liability Company taxed as a corporation (legal services are the exception to the general rule to not report payments made to a corporation). Let's break down each of these forms.
Form 1099-NEC
Prior to 2020, Form 1099-MISC was used to report nonemployee compensation. The reporting requirement was moved to the new Form 1099-NEC. Attorney legal fees, commissions, and other compensation for services performed over $600 paid to the legal representatives must be reported in Box 1 of Form 1099-NEC. The size of your law firm or business does not matter. If you meet this requirement, you'll need to file a Form 1099-NEC.
For example, if a lawyer was paid $450 in legal fees for a session, the person or business hiring the attorneys or law firms does not need to send a Form 1099-NEC. If they are paid $450 in 2 separate years, the person or business will not need to provide a 1099 as well.
Form 1099-MISC
There are some instances where attorney and law firm payments are reported on the IRS Form 1099-MISC, instead of the Form 1099-NEC. If payments above $600 are NOT reported on Box 1 of the Form 1099-NEC are made to an attorney or law firm in the course of your business or trade in connection with legal services that are not directly provided by an attorney, chances are they will be placed on the 1099-MISC.
Gross proceeds paid to a lawyer related to legal services will be reported on Box 10 of the Form 1099-MISC. Box 10 is only for reporting payments or specific fees to attorneys. Those payments related to a settlement agreement with another person or business fall into this category.
For example, if an insurance company pays a claimant's attorney $150,000 to settle a claim, the insurance company reports the gross proceeds of $150,000 on box 10 of Form 1099-MISC.
Also, payments of at least $10 in broker payments or royalties in lieu of tax-exempt interest or dividends need to be reported on Form 1099-MISC.
Self-Employment Taxes
As an independent contractor or law firm, you'll need to pay self-employment tax on your earnings. The tax rate is composed of two parts, Social Security (12.4%) and Medicare (2.9%). So, when you calculate your self-employment taxes, you'll owe 15.4%.
Social Security tax only applies to the first $137,700 of payments or compensation. There is no limit for taxes paid for Medicare tax. Let's review how a lawyer would pay for these taxes over the course of a year.
Quarterly Tax Payments
Independent contractors in the United States operate on a "pay-as-you-go" system in order to pay their self-employment and income taxes. This means lawyers will need to send payments to the IRS four times a year.
Lawyers who expect to owe at least $1,000 when they file their tax return may need to make estimated tax payments. In order to calculate quarterly tax payments, simply take your total tax liability from the previous year (Social Security, Medicare, income, and any other taxes) and divide that number by four.
These four payments are due by:
- April 15
- June 15
- September 15
- January 15 of the following year
You can calculate and send in payments via IRS form 1040-ES. Filing electronically is an option as you can send in payments to the IRS via Direct Pay.
You'll want to send in the right amount on time, otherwise, you can pay an underpayment penalty. If you miss payment deadlines, you'll pay a penalty rate of generally around .5% of the amount owed for each month or part of a month the tax is not paid (with a maximum of 25%).
Read our full guide to send estimated tax payments.
When Do Attorneys Need To Issue 1099s?
Whether or not legal firms and lawyers need to issue a Form 1099-NEC is a confusing topic. Although most law firms and legal representatives send checks to clients for legal settlements, most lawyers getting paid a joint settlement check are not considered "payers" and do NOT have to send out 1099 forms. The settling defendant would be considered the payor, and not the law firm or lawyer.
Payments for physical injury is an important exception to the 1099 form rules. The requirements to send out a 1099 do not apply to payments for personal physical injuries or physical sickness i.e. legal settlements for slip-and-fall injuries, car accidents, or medical malpractice cases. Such payments are typically tax-free for the injured person so no 1099 is needed.
However, there are instances where the attorney or law firm would have to issue a Form 1099-NEC or Form 1099-MISC.
An attorney or law firm paying fees for referral or co-counsel above $600, must issue a Form 1099 to the recipient. The same goes for a client paying a law firm or lawyer more than $600 in a year as a part of the client's business, must send out an IRS Form 1099.
Also, if attorney management and oversight functions oversee client monies, they become "payers". Thus they are required to issue Forms 1099 whenever they disburse funds.
1099 Rules For Settlements
Many legal representatives receive funds to disperse from a settlement via checks to their clients. This means law firms and many lawyers receive funds to pass to clients for a share of the settlement total.
For example, let's say that an attorney settles a real estate deal or case for $950,000 and it is sent to the lawyer's trust account. If it is divided up with the lawyer receiving 33 percent (or one third) of the settlement and the client will receive 67 percent. Although the lawyer will receive a 1099 form to report the gross proceeds, the legal representative will not report the entire $950,000 as gross proceeds.
According to the IRS, case settlement payments are reported under Box 10 on Form 1099-MISC.
All payees need to provide a taxpayer identification number (a Social Security number, taxpayer identification number, or Employer Identification Number (EIN), on payee statements.
Deductions Attorneys Could Take Advantage Of
A benefit of attorneys being independent contractors is, they can take advantage of tax deductions for expenses they incur in the course of their business.
Here's a short list of expenses you can claim:
- Travel expenses for business
- Advertising costs
- Vehicle expenses
- Home office deductions
- Entertainment expenses
- Costs for improved education
- Related industry magazines or subscriptions
- Credit card fees
- Software
- Self-employment taxes
- Office supplies
- Casualty and theft losses
- Moving expenses
- Professional fees paid i.e. accountant and other contractors
Read our more comprehensive list of tax deductions for lawyers here.
Time To File Your Legal Taxes
This article went over the tax liability you'll owe, sending out a Form 1099-NEC or 1099-MISC, quarterly taxes, independent contractor deductions and more. Remember, you'll need to be careful with tax filing because the IRS will be more likely to audit you. After all, you'll handle client funds and you will most likely have a high income (read the IRS's lawyer audit guide).
If you have any questions about filing your taxes for your legal fees or law services, we always recommend you contact a professional accountant or CPA at the end of the tax year to answer your tax questions. Tax rules are always changing and the sure-fire way you can stay compliant is by working with a specialist for legal advice.
If you need help with managing/organizing your business deductions, then try Bonsai Tax. Our app will automatically scan your bank/credit card statements to uncover potential tax write-offs you can claim from your tax bill. In fact, the majority of our users save $5,600. Claim your 7-day free trial here.
