IRS Reporting Requirements of Attorney Fees, Back Pay, or Wages

The purpose of this notice is to ensure that employees are aware of the Internal Revenue Service (IRS) income reporting requirements when attorney fees are awarded.

In 2005, the IRS issued regulations that changed the manner in which attorney fee awards are to be treated for tax reporting purposes, based upon the Supreme Court’s decision in Commissioner v. Banks, 125 S. Ct. 826 (2005). Previously, when payment of attorney fees was made directly to the attorney, only the payment to the attorney was reported to the IRS on Form 1099-MISC, Miscella­neous Income. In Commissioner v. Banks, the Supreme Court concluded that attorney fees awarded as part of a plaintiff’s settlement are gross income to the plaintiff just like any other economic gain. Thus, pursuant to Internal Revenue Code Section 6041(a) and 6045(f), these fees can­not be excluded from the plaintiff’s gross income for tax purposes by assigning the gain in advance to another party, such as the plaintiff’s attorney.

Following are a number of different situations requiring variations in the reporting requirements:

Separate Attorney Fees

Accounting Services will report any payment of attorney fees as income to the employee on the employee’s Form 1099-MISC. Further, Accounting Services also will report any payment of attorney fees made directly to an attorney on the attorney’s Form 1099-MISC.

Back Pay or Wages

Where the payment to the employee constitutes back pay or wages, the entire amount (including any amount that the employee may subsequently pay to his or her attorney from the back pay or wages) will be reported on the employee’s Form W-2 (and will be subject to employment tax withholding). Where the employee alone is to receive a check from the Postal Service™ (and the employee is required to pay his or her attorney from that amount), Accounting Services will not issue a Form 1099-MISC to the employee’s attorney.

Payment Jointly to Employee and Attorney

If the payment is issued to both the employee and the attorney, then Accounting Services must report the entire amount of the payment (assuming that the payment is not for back pay or wages due the employee) on Form 1099-MISC for the employee. In addition, Accounting Services will report the entire amount of the payment (less any with­holding) to the attorney on Form 1099-MISC.

The Postal Service makes no representation regarding the taxability of these payments. Potential tax liability result­ing from any of these payments is the employee’s respon­sibility. The IRS makes the determination on whether taxes must be paid. The Postal Service does not provide tax advice, and any tax reporting questions should be directed to the IRS, or a qualified tax attorney or accountant.