The New Tax Law’s Impact on Sexual Harassment Settlements and the Law of Unintended Consequences - American Society of Employers - Anthony Kaylin

The New Tax Law’s Impact on Sexual Harassment Settlements and the Law of Unintended Consequences

As the #MeToo stories and the stories of non-disclosure or confidentiality agreements protecting problem CEOs and other employees became widely publicized, Congress felt it was time to make a stand that penalizes companies using these types of agreements to settle cases, especially since the perpetrator was less likely to be disciplined or terminated.  In the past, under Section 162 of Internal Revenue Code ordinary and reasonable business expenses under these types of agreements were deductible by the business. 

Now under the new tax law, new Internal Revenue Code Section 162(q) provides, “No deduction shall be allowed … 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 limitation applies to any payments made on or after December 22, 2017. Existing agreements may be adversely affected if they contemplate payments extending beyond that date.  Any attorney fees paid directly relating to these agreements are not deductible as well.

By forcing the settlement to be a non-deductible, it should arguably change the way organizations deal with the specter of harassment claims.  Organizations should theoretically spend money on prevention, from organizational, team, and individual training to cultural shift as to what is acceptable or not and to creating a safer environment for reporting such behavior.  And no matter what level in the organization a person is, such behavior should not be tolerated.  All these preventable actions should be deductible as ordinary and reasonable business expenses.

However, it is not clear, whether by statutory history or otherwise, how expansive the meaning is for a settlement with nondisclosure means.  In other words, if an employee is terminated under a mutual agreement or has a severance agreement, many times these agreements would include reference to all claims the employee is permitted to release privately.  This would include sexual harassment and/or abuse claims, regardless of whether the employee actually experienced any or was the subject of the agreement.

Also, there are questions whether and how the deduction ban applies when only one part of the allegations concern sexual abuse or harassment (for example, if the victim has also alleged gender-based discrimination or violations of the Equal Pay Act).  Whether the allegation of misconduct has to be supported by fact or otherwise proven to render the deduction lost (what if actions cannot be determined one way or another) is also in question.   And finally, questions include whether the deduction ban applies to all the attorneys’ fees involved in defending against the allegation, or only the fees incurred in negotiating and/or drafting the settlement. 

On the other hand, does the new tax law provision chill a settlement approach because confidentiality is not permissible?  If so, the law of unintended circumstances may come into play and force a situation in which employers will fully defend the allegations so if proven false, the fees can be fully deductible. 

Yet, presumably the victim will not be able to deduct attorneys’ fees incurred in pursuing or settling sexual harassment or claims that reference sexual harassment if non-disclosure provisions are included.  Will that chill victims from settling claims if they are being taxed on phantom income?

Unfortunately, it appears that until a technical correction bill is passed, or IRS regulations are promulgated for court decisions on these issues, HR must assume that all settlements including language related to sexual harassment or abuse that contain non-disclosure language will likely trigger the new section 162.  HR needs to understand how management wants to approach defending such allegations given the expansive nature of the new tax law.  Therefore, HR will need to work with legal counsel to develop new templates and strategies (presumably deductible expenses) to avoid the law of unintended consequences.   

ASE Resources
Prevention of harassment is key in 2018.  ASE’s next Harassment Prevention class will take place Wednesday, March 28 from 9:00 a.m.–12:00 p.m.  To register or learn more click here.  To schedule an on-site class at your facility, please contact Linda Yesh-McMaster via email or call her at 248-223-8002.


Sources:  Mintz Levin Cohn Ferris Glovsky and Popeo PC 12/21/17, Eversheds Sutherland (US) LLP 12/26/17

 

 

Please login or register to post comments.

Filter:

Filter by Authors

Position your organization to THRIVE.

Become a Member Today