Tucked away in the 600-plus pages of the American Jobs Creation Act of 2004 is something called “Civil Rights Tax Relief”. This is an important provision for employment lawyers.
By way of background, successful plaintiffs who are not businesses face an unintended and unfair tax result. This occurs because the gross proceeds from a settlement or litigation is income, but the related legal fees are deductible only as an itemized deduction. This causes some or all of the deduction benefit to be lost because of (i) the 2% limitation on miscellaneous itemized deductions, and (ii) the loss of a deduction for legal fees for purposes of calculating the alternative minimum tax or AMT. For more background information, see Avoiding a Contingency Fee Tax Trap.
The new tax provisions remedy the problem for employment-related cases by changing the deduction for attorney fees from an itemized deduction to an “above-the-line” deduction. This eliminates both the problem with the 2% limitation on miscellaneous deductions, and the AMT. The net amount (i.e., after payment of attorney’s fees) remains taxable.
These tax act changes taxation in variety of employment-related cases, including:
“any provision of federal, state, or local law, or common law claims permitted under federal, state, or local law (i) providing for the enforcement of civil rights, or (ii) regulating any aspect of the employment relationship, including claims for wages, compensation, or benefits, or prohibiting the discharge of an employee, the discrimination against an employee, or any other form of retaliation or reprisal against an employee for asserting rights, or taking other actions permitted by law.”
In the unlikely event the above general description is not sufficiently inclusive, the provisions specifically apply to any claims under Title VII, the National Labor Relations Act, the Fair Standards Labor Act, the Age Discrimination in Employment Act, the Rehabilitation Act, ERISA, the American’s with Disabilities Act, the Employee Polygraph Protection Act, the WARN Act, the Family Medical Leave Act, USERRA (relating to reemployment of members of uniformed services), and Sarbanes-Oxley whistleblower provisions.
Other types of cases continue to cause tax problems for a successful plaintiff. The U.S. Supreme Court granted certiorari in two matters involving this issue. For additional information, see Avoiding a Contingency Fee Tax Trap. This new tax law makes the Supreme Court’s ruling moot only for employment cases.