Uncle Sam's Outstretched Hand: Just settled a personal injury case? Your client's nextopponent may be the IRSAuthor(s): JILL SCHACHNER CHANENSource: ABA Journal, Vol. 83, No. 3 (MARCH 1997), p. 30Published by: American Bar AssociationStable URL: http://www.jstor.org/stable/27839456 .

Accessed: 13/06/2014 07:03

Your use of the JSTOR archive indicates your acceptance of the Terms & Conditions of Use, available at .http://www.jstor.org/page/info/about/policies/terms.jsp

.JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range ofcontent in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new formsof scholarship. For more information about JSTOR, please contact support@jstor.org.

.

American Bar Association is collaborating with JSTOR to digitize, preserve and extend access to ABA Journal.

http://www.jstor.org

This content downloaded from 62.122.76.54 on Fri, 13 Jun 2014 07:03:47 AMAll use subject to JSTOR Terms and Conditions

NEWS

Uncle Sam's Outstretched Hand Just settled a personal injury case? Your client's next opponent may be the 1RS

A $10 million toxic shock syndrome award is now subject to about $2.8 million in taxes.

BY JILL SCHACHNER CHANEN

The U.S. Supreme Court and

Congress issued a one-two tax

ation punch last year, leaving no

question that Uncle Sam will now be claiming a share of punitive damage awards.

But that may not satisfy the Internal Revenue Service, which is also likely to set its sights on struc tured settlements in cases where a claim for punitives could be made.

In its December decision, O'Gilvie v. United States,!!! S. Ct. 452 (1996), the High Court agreed with the 1RS position that punitive damages awarded in personal in jury cases are taxable.

The decision will affect verdicts not covered by August legislation that imposes taxes on punitive dam ages and on compensatory damages in nonphysical personal injury cases, such as suits for defamation or

wrongful discharge. The law gener ally applies to awards received after it was signed. (See "Taxing Times for Plaintiffs," November 1996 ABA Journal, page 22.)

Litigants who have not de clared personal injury punitives on their returns may be required to pay taxes on the awards if the statute of limitations has not run.

The period ranges from three

to six years, depending on whether the amount in question is more than 25 percent of the taxpayer's stated gross income, says David Higgins, vice chair of the ABA Tax ation Section's Individual Invest ments and Workouts Committee.

O'Gilvie was a wrongful death action brought by the husband and children of Betty O'Gilvie, who died in 1983 from toxic shock syndrome.

A jury awarded the plaintiffs $1.5 million in compensatory and $10 million in punitive damages against tampon manufacturer Internation

al Playtex Inc. The tax code in effect at the

time of the O'Gilvie award excluded from gross income the "amount of any damages received ... on account

of personal injuries or sickness." 26 U.S.C. ? 104 (a)(2) (1988). Federal appeals courts had split on whether the exclusion applied to punitive awards in personal injury cases.

The August legislation amend ed that section to exclude from gross income "the amount of any damages (other than punitive dam ages) received ... on account of per sonal physical injuries or physical sickness."

As a result of O'Gilvie and the tax code changes, litigants in per sonal injury cases involving physi cal injury may have more reason to

settle, tax experts say. The reason: to avoid punitive damages and to obtain favorable tax treatment.

"If I am going to settle, I am

going to want as much [money] as

possible to be allocated to compen satories and as little as possible to punitives," says Dorothy Brown, a tax law professor at the University of Cincinnati College of Law.

Already, however, the 1RS has shown it is willing to question such allocations.

"Structured settlements will be the next domino to fall," predicts Linda King, a Wichita, Kan., law yer who represented one of the pe titioners in O'Gilvie. "When you structure a settlement, how are you going to decide how much to allo cate to compensatory damages and to punitives? The Court has guar anteed immense litigation."

In Bagley v. Commissioner, No. 96-1768, the 8th U.S. Circuit Court of Appeals, based in St. Louis, is expected to decide this year just how far the 1RS can go in reviewing the allocations made in structured settlements.

A Beel Over Taxes In Bagley, the plaintiff was

awarded $1.5 million in compen satory damages and $7.2 million in punitives in a lawsuit against a beef processing company. After an

appeal, the parties reached an out of-court settlement for $1.5 million. The agreement stated that none of the award was for punitives, says

Mark Arth, a Sarasota, Fla., lawyer who represents the plaintiff.

The 1RS claimed that $1.3 mil lion should have been allocated to punitive damages. The U.S. Tax Court agreed in principle, but dif fered with the 1RS on the amount, allocating $500,000 to punitives.

The O'Gilvie family's tax situa tion is a good illustration of the im portance of the taxation question, says the Taxation Section's Hig gins, a member of Brobeck, Phleger & Harrison in Los Angeles.

He estimates the family will take home about $2.2 million of the $10 million punitive award after paying an estimated $5 million in attorney fees and costs, and about $2.8 million in taxes.

30 ABA JOURNAL / MARCH 1997 CUSTOM MEDICAL STOCK PHOTO

This content downloaded from 62.122.76.54 on Fri, 13 Jun 2014 07:03:47 AMAll use subject to JSTOR Terms and Conditions