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The Deductibility of FCA Payments in Light of <b><i>Kokesh</i></b>

By Joseph F. Savage, Ezekiel L. Hill and Timothy H. Kistner

In negotiating False Claims Act (FCA) or similar settlements with the government, one key consideration is the tax treatment of any payment. While business expenses (including compensatory damages) may be deducted, deductions may not be taken for fines or penalties paid to the government for a legal violation or for payments made to the government to settle such potential liability. See 26 U.S.C. § 162(a), (f); 26 C.F.R. § 1.162-21. Taxpayers and the Internal Revenue Service (IRS) have litigated the deductibility of settlement payments, with courts adopting differing approaches to determine if a payment is punitive and thus a nondeductible penalty.

While not in the context of deductibility, the Supreme Court this year, in Kokesh v. SEC, analyzed whether disgorgement in an SEC enforcement action was punitive or compensatory. The Court's approach in Kokesh may provide a template for tax cases for analyzing if a settlement payment is deductible.

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