Businesses frequently pay hush money in legal settlements to avoid publicity and additional claims, with tax consequences for both the payer and recipient. These payments are often made to keep claims quiet and can be tax deductible for businesses, though there are exceptions. Individual tax deductions for hush money are limited to those conducting a trade or business related to the payment.
While most business settlements are tax deductible, exceptions exist for confidential legal settlements related to sexual harassment or abuse. Companies are no longer allowed to deduct hush money payments for such cases if confidentiality is required. Some companies have found ways to work around this restriction, such as splitting payments to categorize only a portion as hush money. Legal settlements with tax indemnities have also become common on the plaintiff’s side.
Legal fees are typically tax deductible for businesses, but the deduction is disallowed for hush money payments related to sexual harassment or abuse that include confidentiality requirements. Plaintiffs may also face tax consequences on their settlements, with income tax applying to most legal settlements unless related to physical injuries or sickness. Evidence of medical care and the cause of the condition can impact the tax treatment of settlement payments.
Plaintiffs may face taxation on the full amount of hush money received, even if legal fees are deducted by their lawyers. The IRS is strict about what qualifies as physical injury or sickness, with exceptions primarily for compensatory personal injuries. Tax laws passed in recent years have restricted plaintiff deductions for legal fees, affecting the amount of money plaintiffs ultimately receive after legal expenses.
Overall, hush money payments in legal settlements have significant tax implications for both businesses and individuals involved. Understanding the tax rules surrounding these payments is essential for anyone engaged in business or facing potential legal claims. While tax deductions may be available for some hush money payments, restrictions apply to payments related to sexual harassment or abuse, and tax consequences can impact the ultimate amount received by plaintiffs.
