Taxation of Illegal Income in The United States - Expenses That Are Not Deductible

Expenses That Are Not Deductible

Deductions relating to unlawful conduct may be disallowed when to allow them would sharply frustrate a national or state policy prohibiting such conduct.

Congress may impose specific provisions that prohibit deductions in connection with illegal activity or other violations of law. No deduction is allowed for fines or similar penalties paid to a government for the violation of any law.

Internal Revenue Code section 280E specifically denies a deduction or credit for any expense in a business consisting of trafficking in illegal drugs "prohibited by Federal law or the law of any State in which such trade or business is conducted."

Similarly, no business deduction is allowed "for any payment made, directly or indirectly, to an official or employee of any government if the payment constitutes an illegal bribe or kickback or, if the payment is to an official or employee of a foreign government, the payment is unlawful under the Foreign Corrupt Practices Act of 1977." Similarly, tax deductions and credits are denied where for illegal bribes, illegal kickbacks, or other illegal payments under any Federal law, or under a State if such State law is generally enforced, if the law "subjects the payor to a criminal penalty or the loss of license or privilege to engage in a trade or business." No deduction is allowed for kickbacks, rebates, or bribes made by those who furnish items or services for which payment may be made under the Social Security Act.