Structured Settlements and Deferred Attorney Fees Leveraging - - PowerPoint PPT Presentation

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Structured Settlements and Deferred Attorney Fees

Leveraging Structured Arrangements to Protect the Client, Facilitate Case Resolution, and Provide Tax‐Deferred Benefits for Counsel

T d ’ f l f

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific TUES DAY, MARCH 1, 2011

Today’s faculty features: Brian Michaels, General Counsel, Brook Hollow Financial, Chicago Christopher J. Princis, S enior Vice President, Brook Hollow Financial, Chicago Robert W. Wood, Partner, Wood & Porter, S an Francisco

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After Settlement Success What You Need to Know What You Need to Know

Brian S. Michaels, Esq. General Counsel, Brook Hollow Financial Christopher J. Princis Senior Vice President, Brook Hollow Financial Robert W. Wood Partner Wood & Porter Partner, Wood & Porter

5

Agenda

• 1. Settlement Funds/468B/QSF
• 2. Deferred Attorney Fees
• 3. Structured Settlements
• 4. Wrap-up

6

Challenges With Multi Party Settlements Challenges With Multi-Party Settlements

• Multiple Defendants

Multiple Defendants – Varying settlement timeframes

• Multiple Plaintiffs/Claimants
• Multiple Plaintiffs/Claimants

– Varying settlement timeframes Liens

• Multiple Law Firms
• Liens
• Attorney Fee Opportunities
• Structured Settlement Issues

Structured Settlement Issues

7

S l ti Solution:

• Qualified Settlement Fund

– IRC Section 468B – IRC Section 468B

8

Qualified Settlement Funds (1 of 2)

• Qualified Settlement Funds (“QSFs”) were

( ) established by Congress.

• Fund is established and defendant pays

i t th f d t l f li bilit into the fund, gets a release of liability and tax deduction.

• Allows plaintiff(s) to settle case and

Allows plaintiff(s) to settle case and receive payment from defendant without triggering constructive receipt of the funds.

• Routinely used in class actions and

mass tort cases of all sizes and comple it complexity.

9

Qualified Settlement Funds (2 of 2)

• 3 Requirements to be treated as a QSF

O d d b j i di ti

• Order approved by any jurisdiction.
• Established to resolve 1 or more claims.
• Fund is a trust under state law and

assets segregated.

10

11

Cases Where QSFs Have Been Used

• 100’s of mass tort and class action cases
• Cook County Building

50 l i tiff – 50+ plaintiffs – Multitude of unresolved issues

• John Hancock Scaffolding

John Hancock Scaffolding

– $78 million – 18 plaintiffs

20 d f d t

• 20+ defendants,

all paying at different times

12

Opportunities For Using QSF pp g

• QSF by Case/Firm

L Fi t bli h QSF

• Law Firm establishes own QSF

– “similarly situated” cases

• QSF by Case/Multiple Firms

– Each firm establishes own sub- QSF (Avandia)

• Other
• Why?

– Liens, administration, deferred f Other attorney fees, structured settlements, SNTs, etc. – Away from eyes/influence of defense – Makes everything easier

13

Deferred Attorney Fees

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Let’s Clarify

• ANY contingent fee can be

deferred (not just personal injury)

• Attorney can defer their contingent

fee REGARDLESS if client chooses a structured settlement.

• Create custom portfolio with
• Create custom portfolio with

any investment option!

15

Deferred fees continued

• Authorized by Childs v. Commissioner

(2103 T.C. 634, 94 TNT 223-15 (1994), and affirmed by the 11th Circuit U.S. Federal Appeals Court in Childs

• v. Commissioner, (aff’d without
• pinion) 89 F.3d 856, Doc 96-19540,

p ) 96 TNT 133-7 (11th Cir. 1996)).

• Payable Directly to the Law Firm

Payable Directly to the Law Firm

• r Attorney
• Can structure all or a portion
• Can structure all or a portion
• f the fee

16

Why Structure Attorney Fees?

• Income Tax Deferral. This is an excellent tool

to smooth out income from year to year and minimize problems such as the Alternative Minimum Tax and phase-outs with the very real possibility of lowering taxes actually paid. p y g y p

• Retirement Planning. 100% of income can be
• structured. Unlike other retirement plans there is no

income limit on participation rules and no annual income limit, on participation rules and no annual administrative costs. It has been described as an uncapped 401(K) plan.

• Overhead Expenses. Law firms have used

structured attorney fees to provide for future law firm overhead expenses. By structuring a portion of current fees (or a portion of big blips portion of current fees (or a portion of big blips in income) firms have lowered reliance on lines of credit for future operating costs.

17

Taxable Equivalent Analysis: What you have to earn to match the power of deferral What you have to earn to match the power of deferral

18

19

20

Structuring Contingent Attorney Fee: Structuring Contingent Attorney Fee: Procedural Steps

• 1. Client and Attorney Fee Agreement
• 2. Plaintiff and Defendant Agree on Settlement
• 3. Parties Meet With Settlement Specialist to

Determine Amount and Timing of Payments 4 Plaintiff Executes Settlement Agreement and

• 4. Plaintiff Executes Settlement Agreement and

Release, with Attorney Fee payable in Exchange for… 5 D f d t P i t M k F t

• 5. Defendants Promises to Make Future

Periodic Payments to Attorney for fee

• 6. Defendant Assigns Obligation to Make

g g Future Payments to Assignment Company

21

St t i C ti t Att F Structuring Contingent Attorney Fee: Procedural Steps

• 7. Defendant Transfers Cash to Assignment Company
• 8. Assignment Company Uses Cash to Purchase

g p y Investments to Fund Future Payments

• 9. Assignment Company (or their Custodian) Makes

Future Periodic Payments to Plaintiff Attorney Future Periodic Payments to Plaintiff Attorney

• 10. Guarantee of the Performance of the Qualified

Assignee is Issued g

• 11. Attorney can structure their fee regardless
• f what client does with their settlement

22

Deferred Attorney Fees

Client Attorney

Legal Representation

y

Pay Fee in Cash +/or Promise of Future Periodic Payments Key Point: Legal fee agreement between Client and Attorney should provide for y p payment of contingent fee in form of lump sum and/or future periodic payments.

23

Deferred Attorney Fees cont Deferred Attorney Fees cont…

Cash + Promise of Future Periodic Payments

Attorney Defendant

Settlement Agreement Future Periodic Payments Settlement Agreement and Release Cash Liability to make Future Periodic Payments Future Periodic P t

Assignment Investment

Investment(s) Payments

Assignment Company Investment Provider

Cash 24

Legal and Tax History Legal and Tax History

• Pre-Childs
• Pre-Childs

– TAMs 9134004, 9134005, 9134006 – IRS said FMV of payment rights includible in attorney’s current year tax attorney s current year tax

• Childs v. Commissioner

– The seminal structured attorney fee case The seminal structured attorney fee case – 103 T.C. 634, 94 TNT 223-15 (1994), aff’d without opinion 89 F.3d 856, (11th Cir. 1996).

• IRS has not formally acquiesced, Tax Court

y q , bound by Childs in 11th Circuit, even so, Tax Court usually follows published guidance from another Circuit where no other published guidance exists published guidance exists…

25

Legal History cont Legal History cont.

Post-Childs No cases or rulings to our knowledge since Childs

IRS has cited Childs favorably

• Rev. Rul. 2003-115, 2003-46 IRB 1052,

Doc 2003-23359, 2003 TNT 209-15 - No constructive receipt where irrevocable election constructive receipt where irrevocable election and substantial limitations or restrictions FSA 200151003 - Cites Childs, attorney has no constructive receipt where settlement is entered into before attorney has unconditional right to receive fee PLR 200836019 - No constructive receipt…employment settlement

26

Childs v. Commissioner

• Facts

– Flows from a case where a house blew up b/c of propane gas with one person seriously injured and one death – Plaintiff Lawyers agree to periodic payments for portion of legal fees Plaintiff Lawyers agree to periodic payments for portion of legal fees – Provided for in settlement agreement with assignment of liability to 3rd party assignee – Assignment company purchased annuity to fund future payments – Lawyer(s) named annuitants of the annuities and estates named beneficiaries – Annuity subject to rights of general creditor, however insurance company guaranteed performance of the assignment company – Lawyers had no right to accelerate payments and no rights greater than a general creditor a general creditor

• Issue(s)

– When are the attorney fees includible by the attorney i hi t bl i ? in his taxable income?

• Holding

– The Tax Court (affirmed by the 11th Circuit) held that ( y ) the attorneys did not constructively receive the fees in the year the settlement documents were signed. 27

Childs v. Commissioner

• Tax Court Holding(s):
• 1. HELD: The fair market values of Ps' rights to receive payments

under the settlement agreements were not includable in income under sec. 83, I.R.C. in the year in which the settlement agreements were effected, since the promises to pay under the structured settlements were neither funded nor secured and thus did not meet the definition of property for purposes of sec.83.

• 2. HELD, FURTHER, the doctrine of constructive receipt

is inapplicable, since Ps had no right to receive the attorney's fees prior to the time the agreement fixing a structured settlement was entered into fixing a structured settlement was entered into.

• 11th Circuit Holding:

Affi d th T C t i d i i

• Affirmed the Tax Court in a one page decision.

28

Technical Requirements of q Deferred Attorney Fee

• FORM is important with tax – do it

right on the front end!

• No constructive receipt
• No IRC Section 409A

No economic benefit

• No economic benefit
• Work with a highly

g y qualified advisor

29

Tax Issues and/or Consequences to Attorney’s Client and Defendant to Attorney s Client and Defendant

• Client/Claimant/Plaintiff

– IRC §104 case

• no taxation issues/consequences as proceeds are tax free

no taxation issues/consequences as proceeds are tax free – Non IRC §104 case

• Settlement proceeds taxable

– Structure can lower overall tax paid significantly

• Attorney fees included in income of client, see

Commissioner v. Banks and Commissioner v. Banaitis, 175 S.Ct. 826; 2005 U.S. Lexis 1370 (2005)

• American Jobs Creation Act of 2004 PL 108-357

American Jobs Creation Act of 2004, P.L. 108 357 – Certain cases get above the line deduction, which effectively nets out the attorney fees » False Claims Act and Section 1862(b)(3)(A) of S i l S it A t d Social Security Act, and – Certain other cases do not get above the line » A long list of laws that provide for employment claims – Certain other cases do not get above the line deduction, but get itemized deduction subject to 2% floor (with no deduction for AMT purposes) – “gross” method

30

Tax Issues and/or Consequences to Attorney’s Client and Defendant to Attorney s Client and Defendant

• This can lead to bad tax result
• see Spina v Forest Preserve District of Cook County

see Spina v. Forest Preserve District of Cook County, 207 F. Supp.2d 764 (N.D. Ill. 2002) as reported in 2002 National Taxpayer Advocate Report to Congress at 166.

• See Adam Liptak, ‘‘Tax Bill Exceeds Award to Officer

in Sex Bias Case,’’ The New York Times, Aug. 11, 2002, section 1, p. 18.Cynthia Spina v… – This is an illustrative case, this specific case would differ after Jobs Act, however for non §104 cases that do not have Jobs Act protection, this would still be the bad tax result would still be the bad tax result

• Structuring attorney fees can help client by

spreading out attorney fee “income” over a number of years

31

Tax Issues and/or Consequences to Attorney’s Client and Defendant to Attorney s Client and Defendant

• Defendant gets deduction, issue is when
• IRS Notice 2003-77 and Maxus Energy Corporation and

gy p Subsidiaries v. United States, 31 F.3d 1135 (Fed. Cir. 1994). – In Notice 2003-77, the Service cited Maxus Energy Corporation and Subsidiaries v. United States saying that a “taxpayer’s payment to a settlement fund effectively taxpayer s payment to a settlement fund effectively constitute[s] payment to the person to which the liability [is]

• wed [if] the claimants agree[ ] to look solely to the fund to

satisfy their claims, and therefore, the taxpayer’s payment to the fund discharge[s] its liability to the claimant.” Qualified Settlement Fund (IRC Section 468B) Se e e u d ( C Sec o 68 ) – Payment by a defendant to an assignment company would be treated as a payment “to the person to which the liability is owed” under Treas. Reg. § 1.461-4(g)(1) if the payment to the assignment company extinguishes the – Structured attorney fees typically (they should) involve a novation, therefore a defendant would be able to claim an immediate deduction upon making the lump payment to the assignment company extinguishes the defendant’s liability to the claimant. to claim an immediate deduction upon making the lump sum payment to the assignment company, just as if the defendant had instead paid that lump sum amount directly to the claimant 32

Tax Issues and/or Consequences to Attorney’s Client and Defendant

• Defendant’s Insurer get deduction

to Attorney s Client and Defendant g when paid – Whether directly to plaintiff/claimant, – To a QSF, or – Structured Attorney Fee, or Structured Attorney Fee, or – Structured Settlement

• See IRC Sections 831-

832

33

Structured S ttl t Settlements

34

Why Talk About S S ?

• Must be completed at time of settlement

Structured Settlements?

p – After docs signed it is too late!

• Often offered by defense

– Understand what is being offered – Resource to call to evaluate the structure being offered

• Plaintiff/plaintiff attorney can and

should have own structured settlement consultant settlement consultant

• Understand Benefits
• Understand Limitations

35

The Settlement Industry

• Approximately 600 full-time structured

settlement consultants nationwide

The Settlement Industry

• Most are primarily “defense” oriented

– But, most also work with plaintiffs

• Plaintiff only brokers

– Plaintiff has right to their own consultant

O l l li d lt t

• Only properly licensed consultants

can offer structured settlements

– Not unlicensed financial planners, brokers, etc.

• Structured settlements are

specialized

• Trade Association: National

Trade Association: National Structured Settlements Trade Association (www.nssta.org)

36

Structured Settlement

• The settlement of a claim or a

lawsuit through cash payments th t d i t ll t that are made on an installment

• r periodic basis
• Usually a mix of immediate

cash and deferred lump sums and/or monthly payments

37

Structured Settlement Benefits

• Eliminate the risk of mismanagement. According to one

recent study, approximately 90% spend all their settlement money within five years.

Structured Settlement Benefits

y y

• Provide tax advantages. Fixed annuity payments from a

qualified structured settlement are tax-free to the annuitant under current IRS rules.

• Provide a steady, low-risk source of money.

Structures eliminate the expense and worry of managing large sums. Off ti th l

• Customized payments. Structures offer a
• Offer more money over time than a lump sum.

Fixed annuity payments can continue for life – no matter how long the claimant lives. p y convenient way to meet the individual claimant’s needs and special circumstances.

• Maximize settlement benefits. In cases

where the defendant has low insurance policy where the defendant has low insurance policy limits, a structured settlement can often provide a more generous overall settlement.

38

Structured Settlement Benefits

Tax-free

• Structured Settlement funds are exempt from federal

d t t i t Y id th t b d

Structured Settlement Benefits

and state income taxes. You can avoid the tax burden that comes with investment earnings on a cash

• settlement. Over time, a structured settlement ensures

significant tax savings and maximizes the value of the settlement proceeds. settlement proceeds. No market risk

• Exposure to market risks is eliminated along with the

potential for investment failures. The annuity provider absorbs any risk of market and interest rate fluctuations absorbs any risk of market and interest rate fluctuations, and the dollar amount of the claimant’s payments is guaranteed, year after year. Money is available when the claimant needs it most

• Annuity payments may be designed and timed to

meet the claimant’s needs now and decades from

• now. They are assured that funds will be there

specifically for medical and educational expenses, for basic living requirements and for specialized for basic living requirements, and for specialized healthcare needs that may arise in the future as a result of their injury.

39

Structured Settlement Benefits for Minors

Safety and Security

• Brook-Hollow Financial only represents life insurance markets

Structured Settlement Benefits for Minors

y p that have secured A++ or A+ ratings from the A.M. Best Company.

• Structured settlements are not subject to the claims of creditors.
• Structured settlements relieve the burden and expense of

money management, investment decisions, and management fees.

• Structured settlements are protected by strict

government regulations. Flexible

• The benefit payment streams can be designed to

meet the future financial needs of the minor. Examples include: funding a college education, lifetime guaranteed payments guaranteed lump sum lifetime guaranteed payments, guaranteed lump sum payments, and even future retirement planning.

40

Structured Settlement Benefits for Minors

Eliminate the Risk of Mismanagement

• Because benefits to be paid under a fixed annuity are calculated in

d th l i tiff h th it f k i th t t

Structured Settlement Benefits for Minors

advance, the plaintiffs have the security of knowing the exact amount and payment dates of their periodic payments. Structured settlements provide tax free payments. There is no tax due on the principal or earnings distributed to the plaintiff, or their beneficiaries. (IRC §104(a)) Additi l b fit Additional benefits

• Courts often insist on structures for minors because structures

guarantee the highest rate of return of any investment and the funds are set aside solely for the benefit of the minor; the structure cannot be invaded by unscrupulous individuals. be invaded by unscrupulous individuals.

• There is no need to post a bond or for annual reporting by the parent
• r guardian.
• It is virtually impossible for the minor to dissipate the settlement
• It is virtually impossible for the minor to dissipate the settlement

funds once they have attained the age of majority.

• The minor is still eligible for financial assistance in college.
• Structures provide an ongoing legacy from a parent to
• Structures provide an ongoing legacy from a parent to

their child. 41

Structured Settlements Are Also Useful When Dealing With Claimants Who Have Special Needs Dealing With Claimants Who Have Special Needs

• Significant, ongoing medical expenses;
• Rehabilitation or permanent care

facility expenses;

• College tuition, retirement income,

the down payment on a home or a mortgage payment, and;

• Replacement of monthly income,

annual income or supplemental income.

• Workers compensation claims; and
• Personal injury, other than bodily injury.

42

Insurance Companies Offering p g Structured Settlements

Company Name A.M. Best Rating - Size All t t Lif I C A XV

• Allstate Life Insurance Company

A+ XV

• American General Life Insurance Company

A XV

• John Hancock Life Insurance Company

A+ XV

• Liberty Life Assurance Company of Boston

A X

• Metropolitan Life Insurance Company

A+ XV p p y

• New York Life Insurance Company

A++ XV

• Pacific Life and Annuity Company

A+ XV

• Prudential Insurance Company of America

A+ XV

• Symetra Life Insurance Company

A XII 43

Structured Settlements Can Be Used In Tax-Free OR Taxable Recovery Cases

• Tax-free Cases

– IRC Section 104 IRC Section 104

• All payments ever received

are free form federal income taxation taxation

• Taxable Recovery Cases

y – Payments are tax-deferred

44

Involve Structured Settlement Consultant Early Minimal Basic Data Needed

• Case Profile Fact Sheet

Case Profile Fact Sheet

• Medical reports –

admission/discharge summaries admission/discharge summaries

• Plaintiff’s life care plan

p

• Economist’s report

45

Brian S. Michaels, Esq., General Counsel Direct: 480 463 1597 Direct: 480-463-1597 bsm@brook-hollow.com www.brook-hollow.com Christopher J. Princis Direct Office: 312-529-4017 Cell: 312-550-4658 cp@brook-hollow.com www.brook-hollow.com Robert W. Wood Direct: 415-834-0113 wood@woodporter.com

• odporter com

www.woodporter.com

46