New “Guidance” on the Deducting Attorney Fees for Sexual Harassment Cases March 14, 2019

By Ann-Marie Ahern and Jonathan Wolnik

Due to the #metoo movement, settlement agreements that require confidentiality have come under attack.  Such clauses, some argue, permit a harasser or the harasser’s employer to pay hush money to make the problem go away, thereby permitting serial harassers to persist in their conduct while preventing the public from ever knowing that the allegations were made or settled.  Congress, in response to this concern, attempted to disincentivize companies by disallowing a deduction for attorney fees paid in regards to a settlement for sexual abuse or harassment claims, if such settlement was subject to a nondisclosure agreement.  This provision, passed as part of the Tax Cuts and Jobs Act of 2017, was intended to curtail confidential settlements.

As well-intentioned as this code section may have been, there were drafting problems.  Lawmakers wrote the language of §162(q) in broad terms so that it currently does not distinguish between the plaintiff and the defendant when denying the deduction.  Many thought this position was unfair to the plaintiff, who for personal privacy reasons, may also want the protection of a nondisclosure agreement when settling claims involving sexual harassment.  It was feared that if the law was applied as written, sexual harassment victims would lose their deduction for attorneys’ fees.

However, the IRS recently provided informal “guidance” on its website stating that the IRS interprets §162(q) as applicable only to the defendant, which is consistent with the Joint Committee on Taxation’s position documented in the December 2018 Bluebook.  Essentially this means that the IRS believes the recipient of payments related to sexual harassment or abuse, even if such payment is subject to a nondisclosure provision, is not precluded by §162(q) from deducting attorney fees so long as such fees are otherwise deductible.

Potential plaintiffs working through sexual harassment and abuse claims need to be cognizant of this new interpretation of §162(q) to ensure they do not miss the opportunity to claim a deduction to which the IRS believes they may be entitled.

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