Settled A Lawsuit With A Government Agency Last Year? Form 1098-F Reporting Of Fines And Penalties Is Coming Due

• Jurisdiction: United States,Federal
• Law Firm: Littler Mendelson
• Subject Matter: Employment and HR, Compliance, Discrimination, Disability & Sexual Harassment, Employment Litigation/ Tribunals
• Author: Mr William Weissman
• Published date: 24 January 2023

As part of the 2017 Tax Cuts and Jobs Act (Act), Congress enacted Internal Revenue Code (Code) section 6050X, which requires government agencies (and certain nongovernmental regulatory agencies) to issue information returns to payors of fines and penalties to the government. The IRS created IRS Form 1098-F to report such payments. The obligation to issue Form 1098-F began with the 2022 tax year, meaning the first 1098-F forms are due in early 2023.

Limitations on deductions for fines and penalties and exceptions to such limitations

As background, under the Act, Congress changed the rules relating to when a penalty or fine paid to or at the direction of a government agency could be deducted by a taxpayer as an ordinary and necessary business expense under Code section 162(f).¹ Specifically, no deduction is allowed for any amount paid to, or at the direction of, a government or specified nongovernmental entity for the violation of any law. The general rule does not apply to the following exceptions:

• Amounts that constitute restitution (including remediation of property);
• Amounts paid to come into compliance with the law;
• Amounts paid or incurred as the result of certain court orders in which no government or specified nongovernmental agency is a party; and
• Amounts paid or incurred for taxes due.²

To be deductible under an exception, the taxpayer must establish that an amount required to be paid is for restitution, remediation or to come into compliance with the law, and the amount must be specifically identified in the settlement agreement or court order as restitution, remediation or to come into compliance with the law.

Any amount paid or incurred as reimbursement to the government for the costs of any investigation or litigation are not deductible under one of the exceptions (under prior law, these amounts were often considered compensatory and deductible).

Code section 6050X and Form 1098-F requirements

Under Code section 6050X, the reporting entity must issue a Form 1098-F that identifies:

1. The amount required to be paid as a result of the suit or agreement to which section 162(f)(1) applies;
2. Any amount required to be paid as a result of the suit or agreement that constitutes restitution or remediation of property;
3. The payor's taxpayer identification number; and
4. Any amount required to be paid as a result of the suit or agreement for the purpose of coming into compliance with any law that was violated or involved in the investigation or inquiry.

The threshold for issuance of a Form 1098-F is $50,000, meaning that payments of penalties or fines subject to Code section 162(f)(1) are not reportable on a Form 1098-F.³ Importantly, this $50,000 threshold applies only to the portion of the settlement that relates to fines or penalties, and not to other amounts paid as part of the settlement. Thus, for example, if the employer pays $1 million in settlement of claims, of which only $10,000 constitutes a fine to a government agency, then the settlement should not be subject to reporting on Form 1098-F.

With respect to Form 1098-F, it requires:

Box 1: Total amount of settlement

Box 2: Amount to be paid for violation or potential violation

Box 3: Restitution amount

Box 4: Compliance amount

Box 5: Date of the settlement or court order

Box 6: Court or entity

Box 7: Case number

Box 8: Case name

Box 9: Code to...