Thursday, February 19, 2009
Gregg D. Polsky (Florida State) & Brant J. Hellwig (South Carolina) present Taxing Structured Settlements at SMU today as part of its Tax Policy Colloquium Series moderated by Christopher H. Hanna. Here is the Introduction:
Section 104(a)(2) provides a tax subsidy to physically injured tort plaintiffs if they enter into structured settlements instead of lump sum settlements. The subsidy allows these plaintiffs to exempt from the tax the investment yield imbedded within the structured settlement. The apparent purpose of the subsidy is to encourage physically injured plaintiffs to invest, rather than presently consume, their litigation recoveries.
While the explicit statutory subsidy is available by its terms only to physically injured tort plaintiffs, plaintiffs' lawyers and non-physically injured tort plaintiffs now contend that the same tax benefit (i.e., yield exemption) is available to them under general, common-law tax principles. If they are correct, then all tort plaintiffs and their lawyers may invest their litigation proceeds in a tax-free manner simply by using structured arrangements ("structures"). Structures would therefore be far superior to traditional qualified retirement accounts (e.g., 401(k)s, IRAs), which provide the same tax benefit of yield exemption but are subject to significant constraints that do not apply to structures. The amount of money that may be invested in qualified plans each year is limited to $5,000 in the case of IRAs and roughly $15,000 in the case of employer-provided retirement accounts, and qualified plan participants face a significant penalty if they withdraw amounts before retirement age. By comparison, there is no limit on amounts that can be used to fund structures, and participants in these arrangements have complete flexibility in setting the payment dates. In short, if proponents of structures are correct in their interpretation of the tax law, these arrangements can be described as "super-IRAs," because they provide full yield exemption without any corresponding limitations or restrictions.