In the past, companies might not have been excited to pay settlements and legal bills stemming from sexual harassment cases, but it was a way to keep the allegations quiet, and the settlement pay out as well as the legal bills were tax deductible. Considered “business expenses,” companies could recoup at least some of their costs by taking the deduction. The new tax bill that took effect on January 1, 2018 has changed all that.
Only deductible without an NDA
Under the new law, any payments made by a company for sexual abuse or sexual harassment settlements, including legal fees, will no longer be deductible expenses if the settlement includes a nondisclosure agreement (NDA). An NDA in this type of settlement generally prohibits either party from discussing or acknowledging the case or the settlement, including its terms and the behavior involved. Lawmakers added this provision to the new law in reaction to the Harvey Weinstein sexual harassment scandal, in which NDAs shielded the public from knowledge of Weinstein’s sexual predation. The new tax law does, however, allow deductions for settlements that do not include a nondisclosure stipulation. Since the new tax law sets a rate of 21 percent for corporate income, a $10 million settlement would produce a $2.1 million tax reduction, provided there was no NDA.
Loopholes
The new rule is a bit vague, and is certain to be tested in the future. The wording states that settlements and costs “related” to sexual abuse or harassment are non-deductible if there is a nondisclosure, but it does not discuss what happens if part of the case stems from another claim. The portion of the suit related to that other claim may still be deductible, even if there is a nondisclosure agreement.
Affects victim and organization alike
The new law denies deductions for settlements subject to NDAs, without making a distinction between deductions taken by the business and those taken by a successful claimant. Thus victims who receive a settlement that includes an NDA cannot write off their legal fees as an itemized deduction, something that was previously allowed. Instead, they will have to pay tax on their entire settlement. Observers agree that this was an unintended consequence, the result of how hastily the new law was drafted.
