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Litigation Settlements Can Be Taxing

Often times in resolving a case issues can come up that give rise to questions about whether a settlement is taxable.  There can also be issues regarding whether or not a Plaintiff can deduct attorney fees from the settlement in determining whether they will be tax on the gross recovery or the net recovery.  These issues can turn on the type of claim being made and the underlying statutory basis for the claim. Likewise, the type of injury that forms the basis for your client’s claim can impact taxability. Is it a personal physical injury or physical sickness?  Are punitive damages being sought?  Is interest included in the recovery?  How is does the language of the settlement agreement read?  Is confidentiality a requirement of the settlement?  How is that handled in the agreement?  Is a qualified settlement fund being used?  I could go on and on.  My point is you need to familiarize yourself with these potential problems before you settle a case and commit the agreement to paper.   This is especially true when dealing with employment related claims, attorney fees or punitive damages.

I am not here to dispense advice, but rather to get you thinking about these issues. An attorney and prolific writer on such topics is Robert W. Wood, a tax attorney specialist from California. I reached out to him and he was kind enough to suggest the following articles to better educate myself:

When Mediating Legal Disputes, Think Taxes

Settlement Awards Post-TCJA

Taxes and Settlement Agreement Wording Underscored Again

Taxing Emotional Distress Damages: Now What? Settlement Wording!

IRS Form 1099 Rules for Settlements and Legal Fees

Legal Settlements as Capital Gain: A Playbook to Avoid Ordinary Income

IRS Taxes Legal Settlements, But Some Are Capital Gain

12 Ways to Deduct Legal Fees Under New Tax Laws

New Tax on Litigation Settlements, No Deduction for Legal Fees

IRS Form 1099 Rules for Settlements and Legal Fees

Emotional Distress Damages Are Taxable, Physical Sickness Damages Are Not, How Come?

Taxing Emotional Distress and Physical Sickness: Chicken or Egg?

President Obama Was Right, PTSD Is Physical

President Obama and Damages for PTSD

New Tax on Litigation Settlements, No Deduction for Legal Fees

Lawyers, Clients Dance The ‘Taxes Two-Step’

Debunking 10 Myths About Tax Opinions

There are many additional articles on his firm’s website, which you can search here:

I wanted to publicly give him thanks for what he has written in an effort help other attorneys who are not well-versed in tax matters. I would encourage you to read articles available on his website. On a final note, having read all of the articles above and even some of the footnoted items and cases, I have come to the realization that the only things certain in life are death and taxes… but not tax opinions. When in doubt refer your client to a tax specialist for purposes of dealing with complex issues.

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