Between spiking COVID rates and election drama, it can be easy to forget that just a few years ago—before 2020 somehow stopped the passage of time—the country was rocked by the #MeToo movement. The 2017 movement, which emboldened women across the world to use social media to signal that they had experienced sexual harassment or assault using the hashtag #MeToo, was spurred by highly public sexual-abuse allegations against film producer Harvey Weinstein.
Since everything has a tax angle, the #MeToo movement made its mark on the 2017 Tax Cuts and Jobs Act in the form of a new rule 162(q), which is informally known as the Harvey Weinstein rule. The rule disallows taxpayers’ deductions for settlement payments related to sexual harassment or sexual abuse cases when the settlement is subject to a nondisclosure agreement (NDA). Seems like a win for the movement, right? Maybe not. In a new article, Professor Gregg Polsky argues that the Harvey Weinstein rule—no matter how well intended—may actually harm sexual assault plaintiffs.
Polsky begins with an overview of the economics of section 162(q). To state the obvious, the purpose of 162(q) is to discourage the use of NDAs in sexual harassment or abuse settlements. Since settlement payments are normally deductible, the rule increases the after-tax cost of settlements with NDAs relative to those without them. For example, a corporate defendant that pays a $1,000,000 settlement without an NDA can deduct that amount, reducing its federal income tax liability by $210,000. As a result, the after-tax cost of the settlement is only $790,000. Under 162(q), that same settlement would cost $1,000,000 if it included an NDA.
So far, so good. But there are a few problems. First, Polsky explains, are the problems of tax incidence and burden shifting. The simplified example above “fails to consider bargaining dynamics, which will often result in plaintiffs being burdened as well.” Polsky demonstrates that a defendant with sufficient bargaining power could shift the entire tax burden onto the plaintiff “by offering only $790,000 to settle the case with an NDA.” Similarly, Polsky explains that a defendant could choose to skip the NDA—a decision that is clearly encouraged by 162(q)—but reduce the settlement amount to account for the fact that the NDA would have had some value to the defendant. In either case, the Plaintiff will receive less cash in the settlement than she or he would have received prior to 162(q).
Second, Polsky argues that 162(q) may simply discourage defendants from entering into any settlement. The reason is that “damages paid pursuant to a judgment remain deductible, while settlements that include an NDA are not.” Polsky explains that defendants will take these tax disparities into account when weighing whether to settle, and in some instances, they may take cases to trial that would have settled under prior law. If the plaintiff prevails at trial, this may work to his or her advantage—but if not, the plaintiff may be “left empty-handed.”
Furthermore, Polsky explains that the law is full of ambiguities. For example, consider a common instance in which a case involves multiple claims, not just sexual harassment or abuse claims. Should the law apply to the entire settlement, or should it be limited to the portion of the settlement that is allocable to the sexual misconduct allegations? And what exactly constitutes an NDA, anyway? Do unilateral NDAs that apply to the defendant (to protect the plaintiff) count? What about pre-existing NDAs? Or agreements that restrict, limit, or condition disclosure but don’t actually preclude it? Finally, which attorneys’ fees are covered? After all, litigation often spans several tax years and covers a variety of legal services, most of which don’t directly relate to negotiation of an NDA.
For tax geeks like me, Polsky’s article is like guided meditation, or a walk through a labyrinth garden created by a few very narrow tax provisions (not limited to the Harvey Weinstein rule) applicable to personal injury plaintiffs—a welcome escape from the world’s chaos. It also got me thinking. How much do plaintiff’s value the absence of an NDA, and is it worth the cost in reduced cash? If so, have they really been harmed? (I imagine the answer to this varies.)
Would non-tax approaches—such as a legal prohibition of NDAs in sexual harassment and assault cases—be preferable to the tax-based approach? I’m inclined to think maybe not, if part of the goal is to empower women by making NDAs more costly for defendants while otherwise preserving victims’ ability to negotiate their own remedies. But it seems clear, based on Polsky’s research, that at least some of this power is illusory. So the question I’m left with is, were plaintiffs better off under the old law? My gut says that 162(q) should be viewed as progress despite its imperfections, but it would be fascinating to revisit this question in five or ten years with more empirical data.
In the meantime, this article should be of interest to any tax scholar interested in tax incentives and penalties, personal injury law, or women and taxation.
 Note that the original MeToo movement was founded by African American activist Tarana Burke in 2007.