Sexual Harassment Settlements Affected By New Tax Law

Buried within the Tax Cuts and Jobs Act (signed into law on Dec. 22, 2017) is a provision, at Sec. 13307, titled “Denial of Deduction for Settlements Subject to Nondisclosure Agreements Paid in Connection With Sexual Harassment or Sexual Abuse”.

This section amends Internal Revenue Code (26 U.S.C.) 162 by adding a new section, section 162(q), that provides as follows:

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.

The law ostensibly creates a tax disincentive for sexual harassers or their employers from including nondisclosure language in settlement agreements (which operate to silence sexual harassment victims).

However, new section 162(q) arguably harms sexual harassment victims. For example, it is arguably broad enough to disallow the so-called “above the line” deduction – currently codified at 26 U.S.C. 62(a)(20) – added by the Civil Rights Tax Relief Act.

In addition, the new law may disincentivize employers to settle sexual harassment cases, where neither (i) including a nondisclosure agreement but losing a tax deduction, or (ii) not including a nondisclosure agreement, are acceptable options.

For a thoughtful discussion of these issues, see, e.g., this article, as well as this one.

Also, new section 162(q)’s language gives rise to ambiguity and interpretation issues. Here are just a few:

  • What is a “nondisclosure agreement”? Would it include a narrowly-drawn confidentiality agreement – e.g., one which requires the redaction of the settlement amount only?
  • How will the section apply to a situation where a settlement resolves many claims, only one of which is sexual harassment? What if the confidentiality agreement specifically exempts sexual harassment claims?
  • As for attorney fees, what does “attorney’s fees related to such a settlement or payment” mean? Settlements are often “global” – meaning, they resolve all claims, without allocating specific sums to specific claims.

We will need to wait to see how this language will be interpreted/applied by the Internal Revenue Service and the courts.

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