Attorneys received a special consideration by the same Congressional legislation that promoted structured settlements — the Periodic Payment Settlement Act of 1982. Because many attorneys use period certain annuities in structured settlements in their professional practice, it is only logical for those same any attorneys to use their unique ability to defer taxes on their fees to buy period certain income annuities for retirement. The combination of safe growth and tax deferral gives attorneys a huge advantage over all other professionals who have to pay taxes on their income when it is received.
How Can Attorneys Use Annuities for Deferred Compensation?
Structured settlements are an excellent solution for victims of personal injury. But structured settlements are not just for plaintiffs. Attorneys can benefit from the same laws that give plaintiffs tax-free status to defer taxes on their own fees.
The key difference between the tax-free structured settlement and the attorney fee deferral lies in the tax treatment. The attorney’s version of the product comes tax-deferred instead of tax-free. But make no mistake- this represents an essentially unlimited tax deferral vehicle, like an uncapped 401K or IRA, that is open only to attorneys and not available to any other professional or the general public.
Injured plaintiffs and their families use structured settlements to ensure a lifetime of financial security. And contingency fee attorneys can also use the same strategies and innovative financial solutions to facilitate their long-term wealth accumulation. Attorneys are able to defer receipt of a part or all of their contingency fees in a deferred compensation plan, and many chose to place their fees into deferred payment plans to guarantee future payments.
In this manner, in lieu of the currently taxable lump sum attorney fee, the participating lawyer will receive guaranteed periodic payments over the arranged amount of time, and only incur a tax liability when the money is received.
An attorney benefits from a fee deferral first and foremost by not taking constructive receipt of the income. But unlike a a qualified plan like a 401K or IRA, the little known advantage that attorneys have is that they do not have to follow the qualified plan’s rigorous rules and requirements for a limit to the contributed amount. For many high-income earners, qualified plans like Roth IRAs and 401K’s have laughable contribution limits that make participation more trouble than it’s worth.
Not so with a contingency fee deferral strategy. With a deferred contingency fee compensation plan, the attorney may structure the benefits to start whenever they wish, and last as long as they need. One of the benefits of this is that it may allow a high-income attorney to put off receiving money until after retirement, at which time he or she may well be in a lower tax bracket.
Some contingency fee attorneys use deferred compensation structures to invest in the markets in a traditional managed money environment. While this is feasible, it often saddles your investment account with fee layers that can greatly eat into overall returns.
Another strategy, however, is to use the same set-and-forget guaranteed, period certain payments the plaintiffs use in their structured settlement awards. With a little planning on the front end by the attorney and a creative settlement planner, attorneys can set up a ladder of income over the retirement years and know with certainty that the income will be paid, and often by the same high-quality carriers their plaintiffs rely on.
Attorneys and settlement consultants should contact us to learn more about using DCF Income Payments for both new structured settlements, and for deferred attorney compensation plans. We can assist with both onshore and offshore assignment companies to facilitate these transactions.
History of Deferred Compensation
In 1996, the 11th Circuit affirmed the 1994 Tax Court’s ruling in Childs v. Commissioner (103 T.C. 634). The Court ruled that:
- Attorneys involved in tort cases under contingency fee agreements have the unique opportunity to receive their fees in the form of periodic payments.
- Attorneys may elect to defer all or a portion of their fees.
- Fees included in the structure will not be taxed until the year(s) in which they are received.
Internal Revenue Code Section 409A includes an express carve-out allowing for the deferral of attorney fees. IRS Notice 2005-1, 2005-1 C.B. 274 provides further guidance on this application of § 409A.
Attorneys can establish these payments to suit their own firm’s or personal needs. Such payments can be arranged in any of the following different configurations:
- Monthly payouts
- Quarterly payments
- Yearly amounts
- Deferred lump sums
These deferred fees become taxable when received.
Uses for Annuities in Deferred Contingency Fee Compensation Plans
Attorneys have a number of practical uses for annuities in their deferred fee compensation plans. Some of the most commonly utilized and cited ones are as follows:
- Retirement Planning – Most traditional and company-sponsored retirement plans include limits on contributions and are subject to required minimum distributions. A retirement plan built using tax-deferred contingency fees and annuities, however, gives attorneys their own specifically tailored, customized plan for retirement that meets their own unique needs, yet with unlimited contribution, and no required distributions, and all with tax deferral. Attorneys have an unfair advantage in retirement planning.
- Firm Overhead Costs – The income that personal injury attorneys command often varies considerably. Sometimes there are leaner months. This is where structured guaranteed income payments can deliver an effective, much-needed, and reliable income source to help smooth out the monthly income variances for their firm. The resulting predictable, safe stream of cash flow allows attorneys to sleep better at night, knowing that normal expenses like staff salaries, office overheads, and costs for future casework will all be covered each month regardless of workflow and firm income.
- College Planning – Attorneys have children to put through university, and these considerable education expenses can be daunting even for professionals enjoying a higher level of income. Thanks to the flexible nature of a well-crafted fee deferral plan, lawyers can rest easy knowing that they have a strong and dependable planning tool for handling future upcoming costs.
Advantages of Annuities for Attorney Fee Deferred Compensation
There are many advantages of annuities for helping out participating attorneys. These include all of the following practical benefits:
- Reduced tax bracket for federal income taxes
- Deferred state and federal income tax liability for those bigger yielding cases and payouts
- An effective and reliable tool for the preservation of capital and wealth
- A guaranteed and locked-in rate of return on period certain payments
- An extremely low-risk platform for a well-diversified investment portfolio
- Stability of the future months’ and years’ income for the firm or individual attorney in question provides peace of mind and allows for better case planning and flexibility
Disadvantages of Annuities for Attorney Fee Deferred Compensation
There are disadvantages to using annuities for deferred compensation, including:
- Deferred compensation means just that- not taking constructive receipt of the fee. This may not always be appropriate for a firm, depending on their individual situation
- Period certain annuities have defined payouts that are typically not very flexible.
- Changes to defined payments from period certain annuities can be difficult or expensive to change once set up.
- Non-qualified assignment companies to facilitate the transaction do incur fees and require a level of trust over the term of the investment.
In general though, it is hard for attorneys to go wrong with this model of deferring taxes and creating stabilizing, dependable, reliable income for years to come.
Are you an attorney looking to buy structured settlements backed payments with your deferred compensation? At DCF Annuities we can help with an offshore assignment company and high yield, period certain payments.