Friday, February 20, 2015

Senate Bill Prevents Federal Agency Settlements from Being Written Off Taxes

In an effort to protect taxpayers, hold corporate wrongdoers accountable, and deter future fraud and abuse, Senators Jack Reed (D-RI) and Charles Grassley (R-IA) introduced bipartisan legislation to rescind tax write-offs for illegal corporate behavior. The Government Settlement Transparency & Reform Act would close a loophole that has allowed some corporations to reap tax benefits from payments made at government direction stemming from settling misdeeds.

Corporations accused of illegal activity routinely settle legal disputes with the federal agencies out of court because it allows both the company and the government to avoid the time, expense, and uncertainty of going to trial.

Federal law prohibits companies from deducting public fines and penalties from their taxable income. But under current law, companies may often write off any portion of a settlement that is not paid directly to the government as a penalty or fine for violation of the law. This allows some companies to lower their tax bill by claiming settlement payments to non-federal entities as tax deductible business expenses. The Senators emphasized that defrauding investors shouldn’t be classified as a business expense.

The Reed-Grassley bill would require the federal agency and the settling party to reach pre-filing agreements on how the settlement payments should be treated for tax purposes. The bill clarifies the rules about what settlement payments are punitive and therefore non-deductible and increases transparency by requiring the government to file a return at the time of settlement to accurately reflect the tax treatment of the amounts that will be paid by the offending party.

Federal agencies can take a more active, effective role in protecting taxpayers. Several federal entities have included specific clauses in their settlement agreements to prohibit penalties associated with the settlement from being deducted as a business expense. Senator Reed urged more agencies to follow suit and publicly disclose the true value of these agreements.”

Specifically, the bill would amend the tax code to deny tax deductions for certain fines, penalties, and other amounts related to a violation or investigation or inquiry into the potential violation of any law. It amends subsection (f) of Section 162 of the Internal Revenue Code. Amounts paid by corporations, which constitute restitution for damage caused by the violation of any law are exempted and remain deductible. The bill requires that nongovernmental entities which exercise self-regulatory powers be treated as government entities for purposes of disallowing deductions under this section. It also requires the government to stipulate the tax treatment of the settlement agreement.