A pair of senators have introduced bipartisan legislation that would rescind tax write-offs for illegal corporate behavior in an effort to hold corporate wrongdoers accountable.

Senators Jack Reed, D-R.I., and Chuck Grassley, R-Iowa, introduced the Government Settlement Transparency & Reform Act, which aims to close a loophole that has allowed some corporations to reap tax benefits from payments made at government direction stemming from settling misdeeds.

[IMGCAP(1)]Corporations accused of illegal activity routinely settle legal disputes with the government out of court because it allows both the company and the government to avoid the time, expense and uncertainty of going to trial, the senators noted. Federal law prohibits companies from deducting public fines and penalties from their taxable income. But under current law, offending companies may often write off any portion of a settlement that is not paid directly to the government as a penalty or fine for violation of the law. This allows some companies to lower their tax bill by claiming settlement payments to non-federal entities as tax deductible business expenses.

“A penalty is supposed to deter others because it causes pain to a company’s bottom line,” Reed said in a statement. “If a company is paying thousands, millions, or even billions in fines, it shouldn’t save money for those same misdeeds, it should be held accountable. The law needs to change to ensure the punishment fits the crime.  Congress needs to close this settlement loophole.”

The Reed-Grassley bill would require the government and the settling party to reach pre-filing agreements on how the settlement payments should be treated for tax purposes. The bill clarifies the rules about which settlement payments are punitive and thus non-deductible, and increases transparency by requiring the government to file a return at the time of settlement to accurately reflect the tax treatment of the amounts that will be paid by the offending party.

“A penalty should be meaningful or it won’t have the deterrent effect it’s supposed to have,” Grassley said.  “This issue comes up regularly, and this bill would make deductibility clear going forward.”

[IMGCAP(2)]The Government Settlement Transparency & Reform Act (S. 1654) would close the tax loophole that allows tax write-offs for corporate violations. The bill would also amend the Tax Code to deny tax deductions for certain fines, penalties and other amounts related to a violation or investigation or inquiry into the potential violation of any law.

In addition, the bill would amend Subsection (f) of Section 162 of the Tax Code, which says that no deduction will be allowed for any fine or similar penalty paid to a government for the violation of any law. The amounts paid by corporations that constitute restitution for damage caused by the violation of any law are exempted and remain deductible. This section requires that nongovernmental entities that exercise self-regulatory powers be treated as government entities for purposes of disallowing deductions under this section. The bill would require the government to stipulate the tax treatment of the settlement agreement.

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