There are plenty of reasons that employers face litigation – employee discrimination, sexual harassment, and wrongful termination, to name a few. When an employee wins his or her case, there are financial planning options that can help ensure the compensation received is as beneficial as possible. One important choice to make is whether to receive the money in a lump sum all at once or to instead break it up into smaller, guaranteed future payments over time with tax benefits. The latter is typically known as a structured settlement, a term that sometimes gets a bad rap. But setting up periodic payments is not a one-size-fits-all approach, and it can have major tax benefits for the plaintiff.
Why do many employment cases settle?
Very few employment cases go to trial, and of the ones that do, only one percent eventually succeed in court. On the other hand, of the cases that settle, employees prevail about 87 percent of the time. Besides having the statistics in their favor, employees have other advantages of settling, mostly related to speed. By avoiding a long trial, plaintiffs will likely see their case conclude much faster, helping them to receive their financial recovery and move on sooner.
No matter the path to recovery, it’s critical for plaintiffs to have the right information about their planning options before settlement arrives. It’s easy to overlook or skip this step and go straight to receiving compensation from an employment litigation case; however, taking the time to plan will ensure that the plaintiff is not only prepared for the future income, but that he or she will receive it in a way that has the most positive impact possible.
That’s where settlement planners come in. Milestone takes a holistic approach to each client’s case, getting to know the plaintiff and weighing all available options to come up with a durable plan. Since money recovered from an employment case is typically taxable, setting up a structured settlement can help spread the tax burden of settlement over time. And for some plaintiffs, the newer investment-backed structure option can offer additional benefits.
Structured settlements for employment litigation cases
A structured settlement allows a plaintiff to defer some, or all, of a settlement from the resolution of a lawsuit, such as a discrimination, harassment, wrongful termination, or other employee litigation case. By establishing a structured settlement, he or she can receive the settlement monies at a predetermined schedule as opposed to all at once. One popular option is to take part of the settlement as cash to cover immediate expenses and then the remainder in a series of tax-free payments to meet future needs. The setup is custom-tailored to the needs of the plaintiff and his or her family. Additionally, the plaintiff is responsible for paying taxes only on the structured settlement payments that he or she received that year – rather than the whole lump sum at once, which might have put the family in a new tax bracket and increased their tax burden.
The structured settlement process was first established in 1982 when a bipartisan coalition of legislators in Congress came together to pass laws that amended the federal tax code. The Periodic Payment Settlement Act of 1982 (Public Law 97-473) formally recognized and encouraged the use of structured settlements for personal injury and wrongful death cases. Then in 2008, IRS Private Letter Ruling 200836019 ruled in favor of the use of structured settlements in non-qualified cases (meaning those recovering damages that are taxable) for recoveries from employment cases.
Following the Private Letter Ruling in 2008, the IRS Office of Chief Counsel issued a memo to help taxpayers understand how the IRS may determine the tax treatment of employment case settlement payments. It outlines a four-step process to determine the correct treatment of employment-related settlement payments. This process looks at whether the settlement from a claim is includable in gross income, whether it is considered wages for purposes of employment taxes, how it should be reported, attorney fees, and more.
When is an investment-backed structure a good option?
The security and tax implications of structuring are extremely valuable to many plaintiffs who receive a settlement. An investment-backed structure allows a plaintiff to get tax-deferred periodic payments with the potential for great rates of return. With a diverse investment plan, clients can grow their funds for years, reaping the benefits of both their settlement monies and the tax-free growth of the investment. Milestone’s open architecture platform allows a plaintiff to choose investment strategies and portfolio options. There is more risk associated with a professionally managed investment-backed periodic payment obligation, but there is also more reward, making it a particularly viable option for younger clients who have discretionary settlement dollars and/or are afforded the time to take more of a risk.
If your client is pursuing an employment-related case and is nearing settlement, we welcome you to contact Milestone to discuss settlement planning options.
A West Point graduate where he served as captain and military aviator, John Bair continues his commitment to our country through his efforts within the settlement planning industry. He has represented families of victims lost in the Flight 3407 crash, offered pro bono services to the families of 9/11 victims and drafted the first consumer protection bill for plaintiffs (H.R. 3699).