To: John and Jane Smith
From: Joan Du
Date: March 25, 2011
RE: Tax question
1(a) The first question asked in regards to how the $300,000 fee received by you, John Smith, Esq., should be treated in terms of income tax. Based from the information provided, I am assuming that the law practice you own is a single-member LLC as no other members were mentioned. In terms of the IRS, LLCs are treated as sole-proprietorships or partnerships when there are several members involved. In this case, the $300,000 that you received as your fee received should be reported on your personal income taxes.
1(b) The next question is how should the $25,000 you received as reimbursement for expenses paid for up front be treated in terms of income taxes. As you stated, the $25,000 was received as reimbursement for expenses that you paid up front. The first thing we would need to consider is whether or not you deducted the expenses within the tax returns for prior years. If the expenses were deducted as business activities in prior years, then the $25,000 would be taxable. However, if the expenses incurred while working on this case were not deducted previously, then they would be non-taxable.
1(c) What is my determination regarding reducing the taxable amount of income for both the $300,000 and the $25,000? As the full amount of the $300,000 was received after the closure of the case in a lump sum, then there is little to do in minimizing the taxes other than taking full advantage of the deductions allowed for businesses.
2(b) Mrs. Smith, your first question is regarding what the different tax consequences would be on paying down the current mortgage and assuming a new mortgage for Federal income tax purposes. For the sales of the current home, the IRS states that married taxpayers can exclude up to $500,000 of gain upon the sale of the residence. This