Settlements, Judgments, and Taxes: Issues to Consider When Resolving a Case

Written by Galen T. Shimoda and Justin P. Rodriguez

First and foremost, our firm does not practice tax law and does not give legal advice regarding taxation issues. However, whenever there is an instance of money being paid from one person or entity to another, there are always taxation issues that are lingering in the background that must be considered. In those instances where a case comes to an end, either by settlement or court judgment, there are different types of payments that can affect how the IRS views an individual's tax liability for those amounts. In contrast to personal injury and workers compensation claims where any monies paid are to compensate for personal injuries suffered and are, therefore, generally not considered taxable wages, employment law claims generally seek money for lost wages. For the typical wrongful termination or discrimination lawsuit, this can include back wages, lost future wages, and even emotional distress. Similarly, unpaid overtime and minimum wages may be included.

Ultimately, any individual that has either received a settlement or court judgment should seek the advice of a qualified tax professional or certified public accountant to determine exactly how the amount they receive should be treated to make sure they do not find themselves resolving one issue only to be creating another, big issue with the IRS. But, there are a few things you should make sure your tax professional is aware of when they are advising you. For example, The American Jobs Creation Act of 2004 included several new laws regarding the treatment of attorney's fees paid in connection with a settlement or judgment as taxable or non-taxable when the claim involves "unlawful discrimination." The Act included within it definition of "unlawful discrimination" the following: "any provision of Federal, State, or local law, or common law claims permitted under Federal, State, or local law -- (i) providing for the enforcement of civil rights, or (ii) regulating any aspect of the employment relationship, including claims for wages, compensation, or benefits, or prohibiting the discharge of an employee, the discrimination against an employee, or any other form of retaliation or reprisal against an employee for asserting rights or taking other actions permitted by law." Determining the proper interpretation and application of this provision should be left to your tax professional, but you absolutely must make sure they are aware of it if you hope to benefit from it.

Similarly, the IRS has issued several rulings relevant to wage and hour cases. Depending on whether the case involves claims for penalties or liquidated damages, these may also be considered non-wages. IRS Rev. Rul. 72-268 and Rev. Rul. 80-364 discuss this in greater detail and should be brought to the attention of your tax professional.

Similarly, the IRS has issued several rulings relevant to wage and hour cases. Depending on whether the case involves claims for penalties or liquidated damages, these may also be considered non-wages. IRS Rev. Rul. 72-268 and Rev. Rul. 80-364 discuss this in greater detail and should be brought to the attention of your tax professional.

If you believe that you have claims against your employer or a settlement/severance agreement you wish to have evaluated, please contact our office to have them evaluated.

The Shimoda Law Corp. legal articles should not be construed as legal advice or a legal opinion on any specific facts or circumstances. The contents of these articles are intended for general information purposes only, and you are urged to consult a lawyer concerning your own situation and any specific legal questions you may have.

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