New Law Helps Trial Attorneys Do Tax Planning
Don McNay's Blog (From www.donmcnay.com)
New Law Helps Trial Attorneys do Tax Planning.
By Don McNay, CLU, ChFC, MSFS, CSSC
“Let me tell you how it will be
There's one for you, 19 for me
'Cause I'm the taxman, yeah, I'm the taxman”
Tax Planning for Personal Injury Attorneys
Since is difficult for a trial lawyer to predict when they will get paid on a case and for what amount, tax planning for trial attorneys can be complicated.
Often, an attorney’s income will be low in one year and high in another.
Receiving a fairly large amount of money in one year can push an attorney into the highest tax brackets. It can also reduce or even eliminate an attorney’s opportunity to take itemized deductions.
Trial lawyers now have the opportunity to receive their fees over a period of time instead of in a lump sum. Instead of paying tax in the year a case is settled, they can defer income and then be taxed in future years.
The ability to structure fees is one of the better financial planning tools available to anyone in any profession. Not only is it a good tax planning tool, It is a way for an attorney to make sure that money is set aside retirement or for their children’s education.
Unlike a traditional retirement plan, attorneys who structured their fees do not have include employees in the plan and there is not a maximum dollar amount as to how much an attorney can structure.
While many attorneys look at structuring their fees to meet long term goals, there are other attorneys who defer money for only a few years. It still helps them with tax planning and gives them additional cash flow while they wait for other cases to settle.
Clay Bigler, CSSC, and I are co authoring a comprehensive article on how attorneys can take advantage of deferring attorney fees. We plan to have the article finished shortly.
For over a decade, there was some uncertainty in the tax laws that made some attorneys hesitant to structure their fees.
In fact, the American Jobs Creation Act, which was signed into law in October 2004, seemed unclear if deferring attorney fees would be permitted past the end of 2004.
Because of the uncertainty, our office spent most of November and December making sure that attorneys who wanted to structure fees were able to do so before the end of the year.
We are happy to learn that our efforts were unnecessary.
On December 20, 2004, the Internal Revenue Service addressed the issue of deferred compensation plans in IRS Notice 2005-1. The notice spells out that attorney fees can be structured or deferred, provided that the attorneys meet guidelines that almost any practicing trial attorney will meet.
You can read IRS Notice 2005-1 (which will be officially published in 2005-02 Internal Revenue Bulletin on January 10, 2005) at: http://www.nacua.org/documents/NonQualifiedDeferredCompensation.pdf
While many attorneys have structured their fees in the past while others were concerned that the IRS had not issued clear guidelines on the subject.
Now that the guidelines have been issued, we expect that a large number of attorneys will take advantage of the opportunity to keep “the taxman” from taking a large amount of their fees.
Attorney Fees and Employment Discrimination Cases
A situation that really could be described as “one for you, 19 for me” was in the area of employment claims.
Some claimants were not being allowed to deduct their attorney fees on employment and other non physical injury awards and settlements.
Since money received on a non physical injury claim is taxable income, this meant that the claimant would pay tax on the full settlement and then pay their attorney as well. Many publications such as the New York Times, pointed out situations where the combination of taxes and attorney fees were more than what the claimant received in a settlement.
The American Jobs Creation Act fixed the tax problem for claimants who receive money from employment discrimination cases. It allows for claimants to deduct attorney fees and costs for claims of unlawful discrimination and a variety of other claims.
San Francisco tax attorney, Robert W. Wood, points out in his article “Jobs Act Attorney Fee Provision: Is It Enough? http://www.rwwpc.com/tn111504.pdf that there the Jobs Act does not address punitive damages, false imprisonment and some other claims but that it does go a long way towards clearing up the inequity that existed.
Rob and I were speakers at a convention in San Diego in 2003 and I came away convinced that he is one of the best minds in the country on this topic. His book, “Taxation of Damage Awards and Settlement Payments” is a great book and available at http://www.damageawards.org/
American Jobs Creation Act may not have created any new jobs for trial attorneys but did make it easier for them to hold on to any income they will receive and made it less difficult for their clients to pay them on employment and discrimination cases.
Don McNay is the President of McNay Settlement Group in Richmond Kentucky where they want trial attorneys to make lots of money. You can write to him at firstname.lastname@example.org or read more about McNay Settlement Group at www.mcnay.com