New Tax Reform Act Will Deny Deductions For Certain Sexual Harassment Settlements!

By now, everyone is aware that on December 22, 2017, President Trump signed into law the most sweeping tax reform provisions in over 30 years (the “Tax Reform Act” or the “Act”). While most people are focusing on the new Tax Reform Act’s impact on their personal tax situation, employers should be aware of a little noticed provision buried deep inside the Act that denies a deduction for some sexual harassment settlements as well as the legal fees associated with such settlements.

Effective immediately, 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 non-disclosure agreement, or (2) attorney’s fees related to such settlement or payment.”

This new limitation on an employer’s ability to claim deductions for sexual harassment settlements applies to any payments made or incurred after December 22, 2017. Existing agreements that call for payments extending beyond December 22, 2017 may also be at risk of non-deductability.

Section 162 of the tax code has allowed companies to deduct ordinary and necessary expenses of conducting business, with certain exceptions. Employers have relied on this deduction in making payments to employees under settlement agreements that release employment related claims, as well as deducting the cost of legal counsel defending such claims.

Another area of concern is that many employers also use employment releases as a matter of course in any situation where a departing employee is being paid severance pay, such as reductions in force or negotiated separations. These types of agreements may also be called into questions as far as deductability under the Tax Reform Act.

The comments submitted along with the Tax Reform Act on this topic do little to shed light on exactly what “related to claims of sexual harassment or sexual abuse” means. It is a common practice in employment related settlement agreements to include both a broad release of all claims as well as a confidentiality/non-disclosure provision. Theoretically, such a broad sweeping release would cover claims of sexual harassment, whether or not the employee even made such claims, thereby triggering a disallowance of the deduction for employers. Unless and until a statutory change is made (for example, in a technical corrections bill) or a Treasury or IRS release of interpretive guidance, employers should carefully consider the plain meaning of the new tax provision in their planning.

In light of Section 162(q), employers should review their standard employment settlement agreements as well as separation agreements with individual employees as well as any settlement agreements that are not fully paid by December 22, 2017. Employers should also be mindful of existing prohibitions in settlement agreements such as those limiting releases under EEOC rules as well as those impacting confidentiality under the Defend Trade Secrets Act of 2016. At Boznos Law, we can assist employers in enhancing compliance with these evolving rules and regulations to ensure the maximum enforceability and deductability of certain settlements with employees.

With over 34 years’ experience in advising employers and employees on workplace issues, let Boznos Law work with you to ensure you are ready to meet the challenges posed by the changes to the employment laws. Call Bill Boznos today at (630) 375-1958 or contact us at through our website.  


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