There real question being asked here is, does the taxpayer have to include the entire amount of damages in income and then take a deduction for the portion paid to the attorney, or does the taxpayer exclude the portion of the recovery paid to the attorney and claim no deduction. The Supreme Court resolved this issue in Commissioner v. Banks. In Banks, the Court held that the income-producing asset was the cause of action. Because the taxpayer retained control over the asset, he should have the entire recovery included in his income. Therefore, the Court announced, “We hold that, as a general rule, when a litigant’s recovery constitutes income, the litigant’s income includes the portion of the recovery paid to the attorney as a contingent fee.”
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