Tax Whistleblower Blog

Two of the Most Asked Tax Whistleblower Questions

Is the IRS Whistleblower Reward Taxable?

The most asked tax whistleblower question by clients is, do I have to pay tax on my tax reward for helping the IRS?  The answer is simply, Yes, it is taxable.  A reward received under Code Sec. 7623 is taxable as ordinary income. Rev. Rul. 70-576, 1970-2 CB 331

The IRS has characterized a reward under Code Sec. 7623 as “service income,” presumably for the act of furnishing information to the IRS and the act of uncovering the information as well.   Perhaps without question, the reward is taxable in the year of receipt since individual taxpayers typically report income on the cash basis.  Therefore, despite the fact that “service” could be performed over several years, it is the year of receipt of the reward that determines the year the tax is due. 

Because the reward is taxable, the whistleblower should take the necessary steps to maximize the reward.  Remember, the statute allows payment of a minimum reward of 15% and a maximum reward of 30% of the amount ultimately collected by the IRS.  Few attorneys specialize in this area of the law.  Avoid those attorneys that simply fill out a form and a mailing label and send the whistleblower’s information to the IRS for they add little value to the case.  The time taken to find an attorney that is qualified to handle these cases is worth the effort as such attorneys can potentionally double the reward for their clients.

Are The Attorney Fees Paid Deductible?

The second most asked tax whistleblower question is simply, are the attorney fees deductible.  Again, the answer is simply, Yes!  At the time of enactment (December 20, 2006) of the new IRS Tax Whistleblower Law, Code Sec. 62(a)(21) was added to allow an above-the-line deduction for attorney fees and court costs incurred by the taxpayer in connection with an award under Code Sec. 7623(b).  However, the deduction cannot be in excess of the amount includible in gross income on account of such award.  Code Sec. 62(a)(21) is broadly drafted to include attorney fees incurred to present the information to the IRS and to file and negotiate the reward with the IRS, and not just the costs of litigating the determination of the reward. 

The new tax whistleblowers are being referred to as the modern day “bounty hunter.”  The old term of informant is also still being used to describe such individuals.  In any event, the program appears to be highly successful with over 500 cases being submitted and accepted into the program in the first two years after enactment.