By Bert Black |
The newly-passed 2017 Trump Tax Law, otherwise known as the Tax Cuts and Jobs Act (“TCJA”), has added a twist to the question of whether victims of sexual harassment can deduct certain amounts from their tax bill. When victims of sexual harassment in the workplace hire attorneys to help them resolve their discrimination claims, the portion of the settlement amount they receive to pay attorneys’ fees can be deductible (above the line) to reduce the tax impact. This deductibility had been well established under the tax code, although it is always important to seek professional advice in answering this question. Now, however, the question has become murkier because of new language added by the TCJA relating to nondisclosure agreements (or confidentiality clauses in settlement agreements).
The Deductibility of Attorney’s Fees in Doubt for Plaintiffs
The new law added language to the tax code disallowing deductions for settlements or payments related to sexual harassment or sexual abuse if the “settlement or payment is subject to a nondisclosure agreement.” This clause seems pretty clearly aimed at discouraging defendants from making plaintiffs agree to keep silent in return for receiving a settlement payout, but the clause immediately following is not at all so straightforward. It prohibits the deduction of “attorney’s fees related to [a settlement or payment including a nondisclosure agreement].” This language does not, on its face, limit the prohibition to the employer making the payment. It easily could be interpreted to keep the victim of harassment from deducting attorneys’ fees come tax time. However, there is an ambiguity in the new law that allows different interpretations.
Uncertainty of Intent and Interpretation
Was this ambiguity intentional or inadvertent? Probably inadvertent. But what policy arguments might be advanced to justify either allowing or disallowing attorney fee deductions by plaintiffs when there are nondisclosure agreements? Lack of precision in drafting legislation is always a concern, and that’s doubly true for a law like the TCJA, which was rushed through Congress in just a few weeks with virtually no time for careful review or debate. There is nothing in the legislative record that provides any clarification.
At this point, it is not clear how the IRS or the courts will interpret the new law. In the face of this uncertainty, some commentators have suggested ways to maximize deductibility of attorney fees no matter the interpretation. One step would be to characterize the matter being settled in terms that don’t suggest it’s really about sexual harassment or abuse, though that approach could fail if the IRS challenged the nature of the claims at issue. Another step might be to negotiate nondisclosure as a separate agreement, and then allocate only a portion of the total attorney fee to that separate negotiation. Whether such efforts would work is as much an open question as Congressional intent, and we won’t know the answers until we see how the IRS and the courts deal with actual cases.
The Silver Lining
Perhaps the only silver lining in this cloud of uncertainty is that in settling sexual harassment and abuse cases, both sides will want to minimize the tax impact, which means their interests often will coincide. Thus it should not be difficult to negotiate settlement provisions aimed at that goal. Whether or not they will work remains to be seen, but the attorneys at Schaefer Halleen will continue to make every effort to obtain favorable resolutions for our clients, and to keep the tax bite as small as possible.
Bert Black has been practicing law for over thirty years, currently practicing in employment and consumer protection litigation. Bert worked as an engineer before attending law school at Yale. Many of Bert’s cases have involved complex scientific, technical, statistical, and financial issues.