This post was written by James Angelo and Matthew Rak.

Right as the #MeToo movement was gaining steam, Congress was in the midst of drafting a substantial change to the tax code.  As Congress scrambled to find revenue raisers needed to partially offset the revenue loss of the new tax cuts, the ongoing conversation about sexual harassment and abuse in the workplace triggered by widespread discussions of high-profile cases against Harvey Weinstein and others clearly had an impact on the final version of the Tax Cuts and Jobs Act (the “TCJA”).

Buried on page 206 of the TCJA is the following “denial of deduction”:

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.

This new provision forces the settlor to choose between confidentiality of the settlement or a potentially significant tax deduction.  For better or worse, it looks like Congress has decided that businesses should no longer be able have it both ways.

Of course, Congress has assumed that making the settlement public will act as a deterrent toward those businesses who acquiesce to sexual harassment in the workplace.  But the business is not necessarily the one who will be drafting the settlement agreement and its confidentiality provisions.  The provision also disregards the wishes of the victim by penalizing nondisclosure.  The victim may desire non-disclosure of the agreement to maintain privacy for many reasons, chief among them being that publicity could result in future employers passing on hiring the victim.

Further complicating matters, at first blush, this text seems to be all-encompassing for settlements that include a nondisclosure provision.  However, the TCJA offers no guidance on what constitutes “related to” sexual harassment or sexual abuse and this ambiguity may create significant practical problems in the very near future, including denying deductions for investigative costs or counseling costs related to the claim.

Moreover, in many employment cases that have a sexual harassment component, a plaintiff will assert several claims, and only some of those claims will be directly related to the alleged harassment.  In those cases, the parties may choose to allocate only a small portion of the total settlement to the sexual harassment claims.  Right now, it is unclear whether those allocations will be respected for tax purposes.  Will only the portion allocated to the sexual harassment claims be nondeductible?  Or will the entire settlement be nondeductible because the plaintiff invoked the magic words of “sexual harassment”?

In either case, until the Treasury or the IRS issues interpretative guidance, businesses would be best served by carefully considering the potential consequences of any action taken. Guidance from knowledgeable litigation and tax counsel is imperative.  The experienced attorneys at Metz Lewis Brodman Must O’Keefe LLC are ready and willing to offer practical advice on these and other issues.

 

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