New Tax Reform Act’s Impact on Harassment Settlements

With the recent passage of the Republican tax reform legislation, employers will no longer be able to take a deduction for payouts to quell employee allegations of sexual harassment or sexual abuse. An amendment introduced by New Jersey Senator Robert Menendez, a Democrat, eliminated a currently allowable deduction for sexual harassment settlements (and related attorney fees) that contain a nondisclosure agreement (NDA).

Specifically, Section 13307 of the Tax Cuts and Jobs Act provides

(q) 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 change applies to any payment made after the law’s enactment including even if the payment is made without a formal settlement agreement, or if the settlement occurred prior to tax reform.

Employers can expect additional guidance addressing issues such as the treatment of expenses for ongoing sexual harassment claims where no settlement has occurred, the apportionment of amounts for settlements of lawsuits/complaints involving multiple types of claims and the treatment of insurance payments covering sexual harassment claims.

The provision was introduced in November, as the onset of high-profile sexual harassment accusations sparked the burgeoning “#metoo” movement and launched a collective national reckoning that is currently rattling the halls of Congress. With reports surfacing that The Weinstein Company, Fox News, and other employers have floated big-money settlements in exchange for silence in lawsuits against power players like Harvey Weinstein and Bill O’Reilly, there is consternation over whether such confidentiality provisions play some part in allowing a culture of unchecked harassment to flourish.

In the meantime, employers looking to settle sexual harassment claims will need to weigh the benefits of confidentiality with the added expense of losing a deduction for the settlement amount and related attorney’s fees (it is not clear whether the employer loses the deduction for all fees spent defending the claim or only those fees related to the actual settlement). The loss of the deduction for the settlement can increase the cost to the employer by 10-35% depending on the employer’s tax status.  This provision will have limited impact on non-profits and other entities that are generally exempt from income taxes.

The best advice for employers remains to try to avoid harassment claims altogether by implementing strong non-harassment policies, conducting training and promptly responding to any complaints of inappropriate conduct.

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