Call Now (800) 681-1295
Close

How to structure award payment to avoid interest payments

Table of Contents

    This is an important question because often times the attorney drafting a settlement agreement between parties will be unaware of the tax laws, or what provisions to include or omit in the agreement.

    One might think that an agreement that simply denies that any interest whatsoever will be paid would be enough for the plaintiff to avoid interest income.

    But this line of reasoning is mistaken. By contrast, interest does not constitute gross income when a settlement states that no interest has been paid (or is sought) and that the payments relate to personal injuries or sickness (such that it is excludable under IRC §104(a)). However, an agreement that appears to simply deny that any interest whatsoever is being paid is not likely to be respected by the taxing authorizes. The solution is to allocate a reasonable but nominal amount to interest.

    It is thus critical that the parties to litigation specifically allocate payments in any settlement agreement to avoid payments being reclassified as interest. The exact amount is a facts-and-circumstances determination, best reviewed by a qualified tax attorney.

    There is case law supporting this viewpoint. In McShane v. Commissioner, T.C. Memo 1987-151, the language of the settlement agreement specifically provided that payments were to be made without interest. Rather, according to the agreement, the payments were determined solely on basis of the risks that each party faced in continuing litigation. The court respected the allocation set forth in the settlement agreement, noting that the intention of the parties as stated by their attorneys was consistent with the payment of no interest.

    By contrast, a post-trial settlement agreement may not be respected by the courts or the IRS if it attempts to explicitly disclaim a court awarded interest. For example, in Rozpad v. Commissioner, 154 F.3d 1 (1998), the taxpayer received a jury award that included prejudgment interest. On appeal, the taxpayers stipulated that none of the settlement amount would include interest. But the court held that the no interest stipulation was ineffective—and that the settlement should include a pro rata share of interest as determined by looking to the original award.

    Tax Help Videos

    Representing Clients from U.S. and International Locations Regarding Federal and California Tax Issues

    tax lawyers

    Main Office

    Orange County
    2601 Main St. Penthouse Suite
    Irvine, CA 92614
    (949) 681-3502

    Our headquarters is located in Irvine, CA. Our beautiful 19,700 office space is staffed full-time and always available for our clients to meet with our highly qualified and experienced staff of Attorneys, Certified Public Accountants and Enrolled Agents. We also offer virtual consultations and can travel to meet with clients in one of our satellite offices.

    Outside of our 4 hour initial consultation option, we do not charge travel time or travel expenses when traveling to one of our Satellite offices, or surrounding business districts, where it is necessary to meet personally with taxing authority personnel, make court appearances, or any in person meeting deemed necessary for the effective representation of a client. To make this as flexible, efficient, and convenient as possible, David W. Klasing is an Instrument Rated Private Pilot and Utilizes the Firms Cirrus SR22 to service client’s in California and in the Southwest by air. Offices outside these areas are serviced via commercial jet airlines. None of these costs are charged to our clients.

    Satellite Offices

    California
    (310) 492-5583
    (760) 338-7035
    (916) 290-6625
    (415) 287-6568
    (909) 991-7557
    (619) 780-2538
    (661) 432-1480
    (818) 935-6098
    (805) 200-4053
    (510) 764-1020
    (408) 643-0573
    (760) 338-7035
    Arizona
    (602) 975-0296
    New Mexico
    (505) 206-5308
    New York
    (332) 224-8515
    Texas
    (512) 828-6646
    Washington, DC
    (202) 918-9329
    Nevada
    (702) 997-6465
    Florida
    (786) 999-8406
    Utah
    (385) 501-5934