The Trump hush money trial has shed light on the common practice of businesses paying hush money to keep legal claims quiet. Legal settlements between businesses and individuals often require confidentiality to prevent publicizing and encouraging additional claims. While most legal settlements paid by businesses are tax deductible, there is an exception for settlements related to sexual harassment or abuse. Businesses can no longer write off confidential legal settlements for these cases if confidentiality is required.
Individuals paying hush money face different tax rules than businesses. In order for an individual to claim a write off for hush money, they must be conducting a trade or business, and the hush money must be related to that trade or business. Legal settlements for sexual harassment or abuse are not tax deductible for businesses if confidentiality is required. However, some companies may opt to split settlements into multiple parts to still deduct a portion of the confidential amount.
Legal fees for businesses are typically tax deductible, even if they are paying hush money. However, since 2018, legal fees related to settlements for sexual harassment or abuse are no longer deductible for businesses if confidentiality is required. Recipients of hush money are usually taxed on the full amount received, unless it is for compensatory personal physical injury damages. The IRS is strict about what qualifies as physical injury for tax purposes.
Plaintiffs receiving legal settlements often face tax consequences on their settlements, which can impact how much they are able to keep after legal fees. The IRS taxes most lawsuit settlements as income unless it is a payment for physical injuries or sickness. Some plaintiffs claim that the harassment caused post traumatic stress disorder, which may be considered physical for tax purposes. The tax law passed in 2017 restricts many plaintiff deductions for legal fees, further complicating the tax implications of legal settlements.
