The Truth in Settlements Act: A Good First Step toward Ending the Tax Deduction for Corporate Fines and Settlements

When corporations commit fraud or have an accident that threatens human health or damages the environment, they pay a fine or settlement to resolve legal claims. These costs can run into the billions of dollars. In general, out-of-court settlements paid to a government for punitive damages (those designed to punish corporations for lax business practices that cause public harm) cannot be deducted from a firm’s taxes.  However, if settlements are paid to private parties or to a governmental agency as “compensation” to offset costs incurred in clean-up or during an investigation and prosecution, these fees may be written off as tax deductions. This essentially reduces costs of the settlement by one third.

In many cases, the terms of the settlement are kept secret. Recently, a few government agencies issued clear public statements on tax deductibility when announcing settlements. Upon announcing a $4 billion settlement with BP resolving criminal charges that the oil giant lied about the rate of oil leaking from its Deepwater Horizon drilling platform, a Department of Justice spokesman, when asked whether the settlement was deductible, replied, “They are not. The Attorney General was very clear that nothing in the criminal settlement could be tax deductible…” But not all agencies are as clear as this when they announce fines or settlements for corporate incidents and misdeeds.

A new bipartisan bill, The Truth in Settlements Act (S. 1898), will be marked up on Wednesday by the Senate Homeland Security and Governmental Affairs Committee. The bill, sponsored by Sens. Elizabeth Warren (D-MA) and Tom Coburn (R-OK), would require federal agencies to provide certain information about all fines and settlements over $1 million.  The agencies would have to disclose information on the tax benefits associated with the settlement. If settlements are deemed confidential, the agency would be required to explain why. The legislation also requires public corporations to disclose in their SEC filings any tax deductions they receive from fines or settlements with government agencies.

The disclosures required by the Truth in Settlements Act would allow citizens and taxpayers to understand the real costs of the fines and penalties corporations pay for misbehaving and to judge for themselves whether they think the punishment fits the misdeed.

We need to believe in a regulatory system that works, and to do that, we need to believe that bad actors will be held appropriately accountable. The Truth in Settlements Act is a good first step toward ensuring that fines and penalties truly deter bad corporate behavior. When corporations break the law or violate regulations, hurting the public or damaging the environment, the American people pay a price. Shareholders, not taxpayers, should pick up the full tab for damage done by corporations and for penalties imposed for illegal behavior.

We urge the Homeland Security and Governmental Affairs Committee to pass the Truth in Settlements Act and hope the entire Senate adopts this important reform before this Congress ends in December.

For more information on this issue, we recommend: Subsidizing Bad Business: How Corporate Legal Settlements for Harming the Public Become Lucrative Tax Write Offs, with Recommendations for Reform, published by the U.S. PIRG Education Fund in January 2014.