Home » Why is tax a consideration in litigation settlements?

Written by:John Greenhalgh

In the complex realm of legal disputes, where every move and decision can shape the outcome, one often overlooked yet powerful player is the intricate web of tax considerations.

Tax can often be a large consideration in litigation settlements for several reasons:

1. Characterisation of the settlement: The tax treatment of a settlement depends on how it is characterised. Generally, settlements can be categorised as either compensatory or punitive. Compensatory settlements, which aim to compensate the plaintiff for losses or damages, are usually treated as tax-free, unless they are for a commercial loss. On the other hand, punitive settlements, which are intended to punish the defendant, may be taxable.

2. Taxability of damages: The taxability of damages awarded in a settlement, depends on the nature of the damages. While compensatory damages for physical injuries or physical sickness are typically tax-free, other types of compensatory damages, such as those for emotional distress or lost wages, may be subject to taxation. Damages based on a commercial loss can often trigger CGT or GST provisions, which, if not contemplated, might lead to an unexpected reduction of the nett damages amount due to the obligation to pay tax.

3. Deductibility of legal expenses: The tax treatment of legal expenses incurred in litigation can also impact the settlement. In some cases, legal fees may be deductible, reducing the taxable income of the party incurring the expenses. However, the deductibility of legal fees can be subject to certain limitations and restrictions.

4. Structuring the settlement: Parties involved in a settlement may consider tax implications when structuring the agreement. By carefully structuring the settlement payments, they can potentially optimise the tax consequences for both parties. For example, spreading out payments over multiple years or using specific payment structures may help minimise the tax burden.

5. Professional risk: Is your tax advisor equipped to provide this advice and have the necessary insurance to support the professional opinion?

At Greenhalgh Pickard, our team of integrated Solicitors and Accountants are equipped to assist you with you in litigation disputes. Working alongside our Accountants means we can proactively address any tax considerations. Call our team today.


The information contained in this article is for general informational purposes only and is not intended to provide legal advice or substitute for the advice of a professional. This information does not consider your personal circumstances and may not reflect the most current legal developments. Should you need advice, please contact our firm for targeted information relating to personal your situation.