Qualified Settlement Funds
Qualified Settlement Funds: The Basics
Qualified settlement funds, or Section 468B trusts, are quickly becoming the new industry standard, acting as important dispute resolution vehicles while providing many benefits to plaintiffs. They are specifically sanctioned by Section 468B of the Internal Revenue Code – Treasury Regulations, and have been supported by case law and in practice across the country since being established in 1993.
As litigation continues to grow increasingly complex, so too has collecting and distributing settlements once the litigation has ended. A straightforward and efficient tool for attorneys and plaintiffs alike is the qualified settlement fund (QSF). Our qualified settlement fund administrators and planners can help with the initial establishment of the qualified settlement fund and/or its management once it is established. Contact us today for expert qualified settlement fund services, consulting, and administration.download pdf
What does a qualified settlement fund do?
A qualified settlement fund is a tax-qualified trust or account that holds settlement proceeds from litigation. This tool allows for more simplified and organized administration of a settlement, and everyone benefits from implementing a qualified settlement fund – the defendant, the plaintiff, and the plaintiff’s attorney.
A qualified settlement fund is helpful to a plaintiff because it gives their attorney sufficient time for proper client counseling before, during, and after settlement, by extending the amount of time available to plan past the release of the defendants from the litigation. Attorneys can thoughtfully address the myriad of decisions involved in the disbursement of funds, and plaintiffs can take consideration of how they would like to receive and/or manage their settlement money.
For defendants, an important element of a qualified settlement fund is that it can remove them and their insurers from decisions that must be made post settlement. The qualified settlement fund allows for the defendants to pay cash into the fund in exchange for a general release.
And here’s the critical part for lawyers: while the money is held in a qualified settlement fund, they have the chance to plan what they would like to do with their attorney fees. Contingency fee attorneys can choose to take their fees immediately – and doing so can improve cash flow of fees by 30 to 180 days, depending on court approval or other challenging issues. Or, they can choose to defer their attorney fees, creating a structure for their attorney fees which provides tax advantages and long-term wealth accumulation, and better personal and professional financial planning.
QSFs are easily created, with only three requirements:
- The fund must be established pursuant to a court order and is subject to continuing jurisdiction of the court[i],
- The fund must be established to resolve one or more contested claims arising out of a tort, breach of contract, or violation of law[ii], and
- The fund must be a trust under applicable state law[iii].
Milestone routinely petitions and establishes qualified settlement funds for plaintiff attorneys and their clients in all 50 states.
There are three types of QSFs.
- An individually-ordered QSF. This allows payment for a settlement to trigger a defendant’s release, thus expediting administration of funds for that particular case. Individually ordered QSFs can come in the form of a single-claimant QSF or a multiple-claimant QSF. This option is beneficial in situations where the specifics of the case require it.
- A firm-wide QSF. A law firm can have its own qualified settlement fund, established by a single court order, for the entire firm and all its cases. As the firm settles cases, all can be paid into this qualified settlement fund. This option is ideal when a firm would like a privately branded fund that will be used frequently throughout the year.
- A national master QSF. As of 2017, Seventh Amendment Holdings’ national master qualified settlement fund has already been established by a court order. When you settle a case, you have the option to join this QSF without an additional court order. This option is attractive when confidentiality and discretion are advantageous or when time is of the essence.
IRS Code § 468B and Income Tax Regulations found at § 1.468B control the use of a qualified settlement fund. Under these provisions, a defendant can make a qualifying payment to the QSF and economic performance is accomplished. The QSF trustee can receive the settlement proceeds, thus allowing the defendant a current-year tax deduction and releasing them from the case. The QSF trustee can, after receiving the settlement proceeds, agree to pay a plaintiff future periodic payments, assign that obligation to a third party, and/or allow the plaintiff to receive tax-free payments under IRC § 104(a) (the provision excluding from gross income periodic payments from a structure). The transaction works exactly the same as it normally would when you have the defendant involved in the structured settlement transaction.
Milestone Consulting can work with trial attorneys and their clients to establish a qualified settlement fund, and their team of experts can help administer a qualified settlement fund as well. In cases of class action or mass tort litigation, this tool is handy because it helps organize money owed to multiple plaintiffs. Milestone’s qualified settlement fund administrators are adept at ensuring all appropriate parties involved in a class action or mass tort case receive their fees, that the money is disbursed safely and in a timely manner, and that all necessary documentation is in order.
What are the benefits of having a QSF?
Establishing a qualified settlement fund has benefits other than the time of payment and fee. You are also hiring a professional qualified settlement fund administrator to manage the funds and ongoing claim resolution, to source lien negotiators, and to assist in the evaluation and necessity (or lack thereof) for Medicare set-asides. And, if you have a lengthy court approval process due to a wrongful death or multiple plaintiff litigation, the consolidation of the cases in a single jurisdiction can be invaluable.
Other benefits include:
- Control over recognition of income
- Tax planning at year end for both plaintiff and attorney
- Ability to spread taxable income over many years
- Potential for tax deferred growth
- Ability to earn pre-tax income, or tax-exempt earnings
Lawyers who dedicate their career to mass tort litigation know all too well how complex the settlement process can be. After months or even years of litigation, any process that can help streamline and improve the disbursement of funds should be strongly considered. Utilizing Milestone Consulting’s Qualified Settlement Fund services is a great solution for all parties involved.
Where did qualified settlement funds come from?
Qualified settlement funds were born out of necessity. As structured settlements became popular in the late 1970s and 1980s, insurance companies funding structured settlements became concerned that payments made to an entity rather than the claimant would not be tax deductible – as they would be if they were paid directly to an individual. Defendants and their insurance carriers wanted to make sure that they could deduct payments in the year in which they were paid, rather than when the money was actually distributed to claimants. Congress enacted Section 468B of the Internal Revenue Code in 1986 to address such concerns.
Thereby, qualified settlement funds grew out of Internal Revenue Code (IRC) Section 468B. IRC Section 468B was added to the Code by Congress as part of the Tax Reform Act of 1986 and established these designated settlement funds. A designated settlement fund can be funded by one or more defendants to make settlement payments to claimants. Designated settlement funds were fairly limited in the way they could be utilized, and in 1993 the IRC passed regulations creating a new type of fund, the qualified settlement fund. There are fewer requirements to create a qualified settlement fund than there are to create a designated settlement fund, and qualified settlement funds can address a broader range of legal claims with increased flexibility.
Case Study: A QSF helps in a sexual assault case
When working with sexual assault survivors, qualified settlement funds are particularly important. Not only do they provide survivors the time and space to confront complicated tax questions, they also allow for time and space to make constructive decisions. We recently worked with a survivor plaintiff living in a temporary housing arrangement for battered women. She was not in the best place mentally, physically, or financially to handle hundreds of thousands of dollars in cash. Over a period of months, we were able to guide her through the many different financial options available to her. She is now in stable housing, has enrolled in a higher education program, and will use her remaining settlement to achieve other goals. Some of her funds were placed into a tax-free settlement design, while some funds were used for housing, healthcare, debt, etc. By placing her funds within a qualified settlement fund, she was able to take her time, plan carefully, and see the most from her settlement now and in the future.
How can a personal injury attorney establish a firm-wide QSF?
Below are the requirements of a QSF as outlined in 26 CFR 1.468B-1.
A fund, account, or trust satisfies the requirements of this paragraph (c) if –
- It is established pursuant to an order of, or is approved by, the United States, any state (including the District of Columbia), territory, possession, or political subdivision thereof, or any agency or instrumentality (including a court of law) of any of the foregoing and is subject to the continuing jurisdiction of that governmental authority;
- It is established to resolve or satisfy one or more contested or uncontested claims that have resulted or may result from an event (or related series of events) that has occurred and that has given rise to at least one claim asserting liability –
(i) Under the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (hereinafter referred to as CERCLA), as amended,42 U.S.C. 9601et seq.; or
(ii) Arising out of a tort, breach of contract, or violation of law; or
(iii) Designated by the Commissioner in a revenue ruling or revenue procedure; and
- The fund, account, or trust is a trust under applicable state law, or its assets are otherwise segregated from other assets of the transferor (and related persons).
A firm-wide qualified settlement fund is advisable for the vast majority of personal injury firms. Any personal injury practice can have a “John Doe Settlement Account” into which an attorney can settle an unlimited number of cases. Once funds are settled into the firm-wide qualified settlement fund, attorneys have 100% income recognition, can choose how much of their fees they wish to accept as an up-front cash disbursement, and determine how much and for how long they wish to defer. Your client is also given the same time and space to properly plan their finances, healthcare, and other necessities. Who thought the defense bar would be so kind and creative to produce such an instrument?
Can a single claimant QSF be used to set up a structured settlement?
After establishing a qualified settlement fund, the trustee or professional administrator can design a settlement plan for the plaintiff. Whether a structured settlement, trust account, or different planning solution is best for the individual, the plaintiff and their counsel have more time to learn about and assess all available options.
What are Milestone’s QSF services?
What to expect from a qualified settlement fund administrator like Milestone:
- A single vehicle where monies are secured (ex., FDIC-insured banks: BB&T, M&T, etc.)
- Coordination of disbursements
- Act as a liaison between attorney and claimant
- Collaboration with lien resolution specialists, Special Masters, and vendors
- Perform all activities related to bank account closeout and final confirmation
What are the steps to implement a QSF?
- The qualified settlement fund is drafted, filed, and established by the fund administrator OR a joinder and escrow agreement executed such that the case will be joined to a pre-existing national master QSF.
- The defendant(s) pay the gross settlement amount into the qualified settlement fund, and the fund administrator coordinates with the attorney’s firm to obtain signed distribution instructions.
- Tax documents are prepared/provided by the fund administrator as needed, and 1099 forms are prepared and issued for attorneys’ disbursements.
- Monthly financial accounting and statements are prepared/provided for counsel.
- Once all disbursements are made, all activities related to the account closure with the bank are handled by the fund administrator.
- Final letter is provided, confirming closeout of the qualified settlement fund.
Milestone brings the brightest minds in the legal and financial fields together to provide trusted guidance and support to plaintiffs before, during, and after litigation. Our individual experiences and expertise allow us to approach every situation and relationship with the specific goals and circumstances of each attorney and client in mind. Together, our commitment to finding and providing the best financial solutions along the litigation journey moves your clients forward. Contact Milestone today to learn more about the opportunity to implement a qualified settlement fund.
[i] 26 CFR § 1.468B(c)1
[ii] 26 CFR § 1.468B(c)2
[iii] 26 CFR § 1.468B(c)3