In 1959, Mrs. Ethel West Cotnam of Alabama won a groundbreaking lawsuit against the Internal Revenue Service when the Fifth Circuit Court of Appeals allowed her to subtract her legal fees, paid to her lawyer on a contingency basis, from her gross income. Mrs. Cotnam sued the estate of her former employer when the administrator refused to honor the decedent's promise to pay her one-fifth of his estate if she would care for him for the rest of his life. Upon the successful disposition of this suit, the Supreme Court of Alabama awarded Mrs. Cotnam $120,000. Of that amount, $50,365.83 went to her attorney, and the Internal Revenue Service determined she owed $36,985.02 in taxes. The Tax Court upheld this decision. Mrs. Cotnam appealed, claiming she possessed no control over the funds diverted to her attorney, and that, once she signed the contingent-fee contract, she never could lay claim to the money. In a two-to-one decision, the Fifth Circuit agreed, reasoning that, because Mrs. Cotnam never enjoyed the benefit of this alleged income, it in fact did not constitute income as to her. This decision created a split between the circuits that has irked the Internal Revenue Service and a majority on the Tax Court to this day.
Andrew P. Lycans,
An Assignment by Any Other Name: Contingent-Fee Agreements as Partial Assignments of the Claim,
Mich. L. Rev.
Available at: https://repository.law.umich.edu/mlr/vol101/iss4/8