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The Deductibility of Settlement Payments  

Author:  Nicholas C. Lynch.; Michael F. Lynch.

Source: Volume 35, Number 02, Winter 2018 , pp.9-20(12)

Journal of Taxation of Investments

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Taxpayers are seeking advice as to the deductibility of settlement payments due to increasing attempts to recover amounts under government laws and statutes. Current regulations fail to provide clear guidelines as to when a settlement payment is deductible and when it is not, placing the burden of proof on the taxpayer. Deductions are allowed for ordinary and necessary trade or business expenses under IRC Section 162(a), but fines or similar penalties paid to a government for the violation of any law are non-deductible under Section 162(f). The Internal Revenue Service will challenge taxpayers to prove that all or some portion of settlement payments are deductible. Unfortunately, given the lack of clear guidance in determining the characterization of settlement payments as either punitive fines and penalties or compensatory restitution, taxpayers must look to court rulings and IRS advice to help analyze the deductibility of the specific settlement payments in their own unique cases.

Keywords: IRC Sec. 162, deductibility of settlement payments, fine or similar penalty, compensatory damages, restitution

Affiliations:  1: California State University; 2: Bryant University.

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