Episode 50: What Are Medical Damages?

Welcome to this week's episode of Information Return Intelligence Powered by IOFM. My name is Jason Dinison. This week we're talking about what are medical damages and the importance of knowing what a settlement agreement says. There was a court case earlier this year that helps us understand that you really have to look at what settlement agreements say and go with what the settlement agreement says. And since most settlements are taxable, that means they're going to be 1099 reportable. There's only a few circumstances where the law says that a settlement is not taxable, and the settlement agreement needs to spell that out that it's that type of settlement. Otherwise you're going to have to assume that it is a taxable settlement. That's what we're talking about today. A few disclaimers before we start. Remember not to make any final decisions based on anything that you hear in this podcast. I'm not your accountant, and you should always pay your own advisors before you take any action. So there was this court case in March that serves as a reminder about the definition of medical damages. This was not a ten ninety nine case, but it's informative for those of us who live in the ten ninety nine world. So there were these two people with the last name of Roman. They were a married couple that then got divorced in 2004. And Mr. Roman had various health problems, so Mrs. Roman, the ex, later moved back in with him as his caregiver. They didn't get married again, but she moved in with him as his caregiver. And in 2010, they moved into an apartment complex. And not long after they moved in, they started making various complaints to the apartment's owners, a company called Jefferson Hollywood at LP. And as those disputes were going on, Jefferson was trying to sell the apartment complex and they found a buyer, but the buyer said that the Romans would need to leave, or else they were reducing their offer by a million dollars. So Jefferson then went to the Romans and offered them a settlement of seven hundred thousand dollars to vacate the premises. And the couple did leave, and this Jefferson company sent seven hundred thousand dollars to them. To misses Roman. They also sent her a ten ninety nine miscellaneous box three. mister Roman didn't get any of the money, and he didn't get a ten ninety nine miscellaneous. This all happened in twenty thirteen. Mrs. Roman, when she filed her tax return, didn't report this as income, and mister Roman didn't file a tax return at all for twenty thirteen. And the IRS, as they oftentimes do, they had a problem with this. And so the IRS started investigating and they said two things. Number one, it's a taxable settlement, and number two, it should be split fifty fifty between mister and misses Roman. We will talk more about what ended up being ruled in this case by the courts after we hear a word from our sponsor, IOFM. IOFM is the trusted source for education and information in the financial operations world, with a universe of over one hundred thousand financial operations professionals, growing certification and membership programs, and a keen understanding of the issues and content needs critical to the profession, IOFM is the trusted source of information in the rapidly evolving field of financial operations. Learn more about IOFM at IOFM.com. And now back to the show. One of the issues in this case is what are medical damages? And that's the term that like everybody uses, including me. The technical term is amounts received on account of personal physical injuries or physical sickness, section one hundred four A two. And so at issue in this case is whether the settlement constituted that type of payment, and the IRS said it did not, and the courts agreed, the tax court used the term nexus, that there was no nexus between any medical problems and the seven hundred thousand dollars settlement. There was no question that mister Roman had health problems. But the settlement itself, the court said, was not about his medical problems. It wasn't medical damages. Now one key in these sorts of cases with settlement agreements, whether it's for medical damages or anything else, this really is the 1099 point to all of this. The settlement agreement didn't explicitly say that the settlement was for medical damages. And with no specific language, the court said it then had to look at the intent. And the court said that it seems like the settlement was mainly so that this Jefferson company could get the couple out of the apartment so Jefferson could complete the sale. And so the court said this was not a settlement for medical damages. And see, the law only gives us a few outs when it comes to taxable settlements. Settlements are taxable unless it's for medical damages, or again the technical term payments on account of physical injuries or physical sickness. Or the other is return of capital. Those are the two big situations where settlements aren't taxable. If they're not taxable, then you don't have to report it on a ten ninety nine. If it is taxable, then you might have to report it on a ten ninety nine. The other piece of this involved whether both people, mister and misses Roman, had income from the settlement or only her. So in the court report we were told that she got the entire seven hundred thousand dollars and she got the ten ninety nine miscellaneous. And the IRS said this actually should have been split fifty fifty. And the tax court sided with the IRS. The court said the settlement wouldn't have existed without both of them leaving the apartment. Therefore, they each owned the settlement equally. And this gets into one of my favorite topics, which is beneficial ownership of income and assignment of income. Mr. Roman didn't get any money, and in fact, in the court report it was even said that he didn't want any money. However, he still had an economic interest in the settlement, and therefore the court said half of the settlement belonged to him. The tax court decided this case in 2023, and an appeals court upheld the tax court's ruling earlier this year. This case doesn't break any new ground, but it does give some reminders for those of us in the 1099 world. Anytime that your organization is paying a settlement, watch the wording of those settlement agreements. As the payer of a settlement, you should always assume it's taxable to the other party and thus potentially reportable on a 1099 unless the agreement specifically says it's for a reason that's not taxable, like medical damages. And the second 1099 lesson is ownership of income, so who should get the 1099, isn't always determined by who actually gets the money. It's determined by who controls the payments. That's true not just in lawsuit settlements, it's true in anything. You'll see that come up when you're dealing with LLCs that are disregarded entities. You'll see this in situations where maybe you're bringing someone in to give a speech for your organization and you want to pay them and they say, Oh, send my money to this charity over here. It's still their money and reportable to them on a 1099, even if you sent it directly to their favorite charity. And I would say that's one of those do the best you can sorts of things, especially with lawsuit settlements where there's multiple parties. You may not always know all of the details, so do the best you can. That'll wrap up another episode of Information Return Intelligence powered by IOFM and produced by Dinason Media Ventures. We do this every week, so join us again next week for another episode. Dinason Media Ventures.