With multibillion-dollar mortgage settlements making headlines this year and last, the question has come to the fore again. Why should taxpayers subsidize corporations that are paying to right sometimes egregious wrongs? That is a particularly weighty question, given the urgent need for tax revenue to offset the federal budget deficit.
Under federal law, money paid to settle a company’s actual or potential liability for a civil or criminal penalty is not deductible. But, this being taxes, the issue is complicated. The tax deduction for business expenses is broad enough to include most settlements and judgments. Unfortunately, the government rarely specifies what the tax treatment of a settlement should be, leaving enforcement to the Internal Revenue Service; the SEC is the one notable exception. A report from the Government Accountability Office suggests that tax benefits in settlements are prevalent. Examining more than $1 billion in settlements made by 34 companies, the G.A.O. found that 20 had deducted some or all of the money from their tax bills. In other words, we subsidize bad behavior.