United States: Tax Cuts And Jobs Act Affects Settlement Payment Deductions And Paid Family Leave

The Tax Cuts and Jobs Act (the "Act") was signed into law by President Trump on December 22, 2017, and, for the most part, took effect on January 1, 2018. As employers undertake tax planning efforts and assess the impact of the Act on their businesses for 2018, they should be aware of some significant changes impacting employment-related business deductions and tax credits.

In a nod to the recent proliferation of high-profile sexual harassment claims that have been in the public sphere, the Act eliminates the ability of companies to deduct from their taxable income any "settlement or payment related to sexual harassment or sexual abuse" (including attorneys' fees) if the settlement is subject to a nondisclosure agreement. In addition, the Act provides a new tax credit for employers who provide up to 12 weeks of paid family leave in certain circumstances. It is important for employers to understand both of these changes and how they impact company policies and practices.

Deduction Eliminated for Confidential Settlements Related to Sexual Harassment or Abuse

As noted above, the Act eliminates tax deductions for settlements and other payments related to sexual harassment and abuse if those settlements are subject to a nondisclosure agreement. While relatively straightforward in some circumstances, the change requires significant attention for settlements where sexual harassment allegations are being resolved in conjunction with additional claims.

Limit on Business Deductions Added as Section 162(q) to the Internal Revenue Code

Payments to settle claims and lawsuits ordinarily are deducible business expenses under Section 162 of the Internal Revenue Code. The new law, which adds subdivision (q) to Section 162, eliminates the deduction for any payment or settlement related to sexual harassment or sexual abuse that is subject to a confidentiality or nondisclosure provision:

(q) Payments Related to Sexual Harassment And Sexual Abuse—No deduction shall be allowed under this chapter for—

(1) any settlement or payment related to sexual harassment or sexual abuse if such settlement or payment is subject to a nondisclosure agreement, or (2) attorney's fees related to such a settlement or payment.

The common practice of employers including a nondisclosure clause in a settlement for sexual harassment claims is strongly disincentivized by Section 162(q). Thus, at first glance, and without the benefit of regulations or rulings from the Internal Revenue Service, employers must choose between keeping such settlements confidential without a tax benefit or deducting the settlement and related attorneys' fees as business expenses.

Broad Application for Business or Trade Expenses

The Act applies to all taxpayers. Section 162(q), unlike many state and federal employment laws, does not limit its application to certain subsets of employers or entities. All employers, regardless of revenue, size or number of employees, who wish to deduct an applicable settlement or fee payment as business expenses must therefore proceed carefully when settling such claims.

Bar on Deductions Applies to Conduct "Related to" Sexual Harassment or Abuse

Section 162(q) specifies that the business expense deduction is not allowed for any settlement or payment "related to" sexual harassment or sexual abuse. Clearly articulated sex and gender harassment claims under state, federal and local law will fall squarely within the scope of this prohibition. As but one example, however, the tax implication of inserting a nondisclosure provision into a settlement agreement for whistleblower allegations is not certain, based on the text of Section 162(q).

Employers should be aware that the Internal Revenue Service likely will take a broad view of the provision and businesses will need to assess their risk tolerance with respect to tax liability and confidentiality as they structure their settlement agreements. Accordingly, companies should work with counsel and their tax advisor to defend and structure the settlement of employment claims in light of the broad "related to" language of the law.

Bar on Deducting Payments for Attorneys' Fees

Section 162(q) further eliminates the ability of employers to deduct from their taxable income the payment of attorneys' fees relating to a settlement for sexual harassment or abuse if the settlement is subject to a nondisclosure agreement. In other words, in such cases neither the settlement payment to the claimant nor the attorneys' fees incurred to investigate, negotiate, litigate and resolve the claim would be deductible under Section 162. This further incentives companies to forgo nondisclosure provisions in settlement agreements for sexual abuse and harassment, although businesses should work with their legal service providers to ensure that legal tasks are billed and apportioned correctly.

Settling Comingled Claims

A difficult situation will arise for employers who wish to confidentially settle a lawsuit, administrative proceeding or other claim where sexual harassment is alleged in conjunction with one or more other employment-based claims. Due to the broad language of the prohibition on deductions, the IRS may take the position that the entire action will fall within the purview of Section 162(q). This may be the case even if a separate discrimination or wage claim predominates over ancillary sexual harassment allegations. Employing tax-efficient resolution strategies is imperative under such conditions.

Tax-Efficient Resolution Strategies

Businesses have a number of options to settle claims for sexual abuse or harassment. If a claim is not based on allegations that reasonably meet the legal standard for sexual harassment or abuse, counsel may meet and confer in an attempt to have the claimant voluntarily dismiss the claim before settling the lawsuit. Litigants may also move the court to dismiss or summarily adjudicate the claim.

Another option is for businesses to settle claims in parts, where only allegations not of a sexual harassment or abuse nature are subject to a nondisclosure agreement or where the settlement payment is appropriately attributed to each claim according to its value. For example, in a situation where the plaintiff refuses to dismiss a sexual harassment claim, or where litigating the case to summary judgment motion or trial is cost-prohibitive, the parties could apportion the settlement into two agreements so that the employer may be able to avail itself of a tax deduction for at least a portion of the total settlement payment.

Importantly, employers must keep in mind that under the IRS's "origin of the claim" test and general tax doctrine, the IRS will look at the underlying nature of the claim to determine if expenses and fees were properly apportioned.

Of course, the structure of the settlement will depend on the facts and circumstances of the particular case. Companies are advised to consult with counsel and their tax advisor to ensure that the settlement meets their legal and tax planning goals.

Severance Agreements

The Act does not address whether a severance agreement for a departing employee would fall within the scope of Section 162(q). However, the IRS may take the position that the severance payment is nondeductible if the departure is related in any way to a sexual harassment or abuse allegation. Unless and until the IRS provides guidance on this and other issues, employers and their counsel and tax advisor will need to make the best decision considering all possible tax and employment implications in light of the specific facts and circumstances of the situation.

Employer Tax Credit for Paid Family and Medical Leave

Addressing another topic that has been the subject of increased public discussion—paid family leave—the Act also adds Section 45S to the Internal Revenue Code, which provides a tax credit for businesses that voluntarily provide up to 12 weeks of paid family leave to qualifying workers pursuant to a written policy. The tax credit is equal to 12.5 percent of wages paid to the employee on leave, so long as the wages are at least 50 percent of what the employee normally would have earned had he or she been working. The credit increases in intervals of 0.25 percentage points (up to 25 percent of wages) for each percentage point by which the employee's payment under the policy exceeds the 50 percent minimum threshold.

Employers are eligible only if they have a written policy that provides not less than two weeks of annual paid family and medical leave for full-time employees and a prorated equivalent for part-time employees. The leave policy must also satisfy other criteria set forth in the Act. The tax credit is temporary and will automatically terminate after December 31, 2019.

Employers have two full years to take advantage of this new tax credit. Congress is expected to revisit the credit upon its expiration.

What This Means for Employers

The Tax Cuts and Jobs Act made significant structural reforms to the way that businesses across the country plan for, and pay, their taxes. While much of the focus in the media has been on corporate tax rates, employers should be aware of the restrictions on deductions for payments made in connection with sexual harassment and abuse claims, as well as the availability of a new tax credit for providing paid family leave to employees. With the increased reporting of sexual harassment allegations, the fact that a tax deduction for payments made in connection with such claims is no longer available can play a significant role in how employers approach the defense and resolution of sexual harassment claims. Similarly, employers who are contemplating adopting family leave policies would be well-served to factor into their decision-making process the newly available tax credit for payments to employees pursuant to such policies.

In each case, the changes made by the Act are both new and nuanced, and it is recommended that employers seek legal and tax advice when making decisions involving these changes.

For Further Information

If you have any questions about this Alert, please contact any of the attorneys in our Employment, Labor, Benefits and Immigration or any member of our Tax Practice Group.

Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm's full disclaimer.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions