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QUALIFIED SETTLEMENT FUNDS

by: Begley Law Group

by Thomas D. Begley, Jr., CELA

What Is A Qualified Settlement Fund?

Section 468B of the Internal Revenue Code[1] authorizes the establishment of Designated Settlement Funds or Qualified Settlement Funds. These funds are usually collectively referred to as Qualified Settlement Funds (QSFs). These funds are also sometimes called “468B Trusts.” The purpose of these funds is to permit a defendant in certain types of litigation to deposit funds into a trust and to receive a full and complete release of liability. The defendant is entitled to a current income tax deduction for the amount paid into the fund at the time the funds are deposited into the trust. This is an exception to the general rule under which the tax deduction is not permitted until the funds are actually disbursed to the plaintiff, which is normally the time in which the plaintiff has received the “economic benefit” of the settlement.

QSFs arose out of class action lawsuits. They can be very useful in smaller personal injury actions and other types of cases where there are multiple plaintiffs. The QSF is usually established prior to trial or as a part of the settlement. The defendant pays that amount into the QSF and the plaintiffs can then take their time in allocating the settlement among themselves and in dealing with various liens, such as Medicaid, Medicare, ERISA, and other liens, and in arranging Structured Settlements, if so desired. The QSF could also be established after a jury award, as long as there is an appeal pending.

When a QSF is being used for asbestos cases, special rules apply.[2]

 

Advantages

There are advantages to both the plaintiff and the defendant in utilizing a QSF Trust.

Advantages to the Defendant

Advantages to the defendant utilizing a QSF include the following:

  • Defendant Removed from Litigation. Defendants want to be out of the case. By using a QSF a defendant can pay and go. The defendant pays the funds into the QSF and the plaintiffs later deal with liens, allocate the settlement between themselves, determine how much should be lump sum and how much to structure, determine whether any Special Needs Trusts are required, and wait while a guardian is appointed for an incapacitated plaintiff, if required.
  • Deduction to Defendant. Defendants and their insurers are able to obtain immediate tax deductions, rather than waiting for “economic performance” to occur.

Advantages to the Plaintiff

Advantages to the plaintiff utilizing a QSF include the following:

  • Defendant Removed from Allocation of Settlement. Where QSF trusts are used, the defendant leaves to the plaintiff the issue of allocating the settlement among injured parties. This often gives the plaintiff greater flexibility in shaping the settlement. There are often advantages to allocating portions of the settlement to family members other than the injured plaintiff.
  • Plaintiff’s Attorneys’ Fees and Costs. When a QSF trust is used, the plaintiff’s counsel can be paid fees immediately from the QSF and litigation expenses can also be paid.
  • Income to Plaintiff. The plaintiff will immediately begin to receive income from the settlement held by the QSF trust. Without the trust, the defendant would be holding the money and the plaintiff would not be receiving the benefit of the income.
  • Time is no longer a factor in negotiations with Medicare, Medicaid, ERISA, and third-party insurers. Additional time is available to negotiate and satisfy those liens.
  • Forms of Distributions. Establishment of a QSF trust gives the plaintiff time to determine how much of the settlement to take as a lump sum and how much, if any, to structure.
  • Conflict Resolution Among Related Plaintiffs. A QSF trust gives the plaintiff’s attorney, who may be representing more than one family member, time to resolve conflicts between them. One parent may have abandoned the injured child, for example. The other parent may be the custodial parent providing almost total care. How much does each parent receive?
  • Removes Defense Structured Settlement Broker from the Case. The relationship between plaintiff’s structure brokers and defense brokers can be rancorous. If the QSF purchases the structure, the defense broker is effectively removed from consideration.
  • Eliminates the Risk of Insolvency. If plaintiffs believe that the defendant or the defendant’s insurer is financially unstable, the QSF can be used as a vehicle into which funds can be immediately transferred.
  • International Litigation. QSFs can be used to collect settlements from defendants that are located outside the country and can be used by foreign plaintiffs to collect from defendants located in the country.
  • In cases involving a large number of claimants, an administrator of a QSF can obtain a Qualified Protective Order (QPO) that complies with the requirements of HIPAA and allows for limited use of Protected Health Information (PHI). This avoids the necessity of obtaining specific HIPAA releases from each settling claimant. Those releases would otherwise be necessary to negotiate subrogation claims in personal injury cases. A QSF administrator often retains the services of an outside vendor for lien resolution. The vendor may be required to disclose PHI to a number of different parties in order to secure release or payment requirements to settle the claims. The QPO is a good solution. A QPO is defined as an order of the court or of an administrative tribunal or a stipulation by the parties to the litigation or administrative proceeding that prohibits the parties from using or disclosing the PHI for any purpose other than the litigation or proceeding for which the information was requested.[3] The regulation further requires the return to the covered entity or destruction of the PHI at the end of the litigation or proceeding.
  • Assists Structuring Attorneys’ Fees. Once settlement proceeds are deposited in an attorney trust account, it is too late for the lawyer to structure his fee. By making the deposit into a QSF, plaintiff’s counsel has time to consider payment options including whether or not to structure his fee.
  • Multiple Defendants. A QSF can also be useful in cases involving multiple defendants or where all disputes with a single defendant cannot be resolved at one time. All monies can be held in a QSF until all defendants settle.

 

Permitted Claims

A QSF can be used in claims involving:

  • Tort,[4]
  • The Comprehensive Environmental Response, Compensation and Liability Act (CERCLA),[5]
  • Breach or contract,[6] or
  • Violation of law.[7]

In a Private Letter Ruling,[8] the I.R.S. approved the use of a QSF in connection with a bankruptcy case. In that case, the trust was approved by a confirmation order issued by the U.S. Bankruptcy Court, which had continuing jurisdiction over the trust. The trust was established under the laws of the state to resolve employees’ wrongful discharge claims filed under potential theories of tort, breach of contract, or a violation of law. Further, the discharged employees are not general trade creditors of the debtor, nor do their claims belong to any other class excluded by the regulation. Accordingly, the trust is a QSF. The I.R.S. ruled that the debtor is the transferor.

 

Prohibited Claims

QSFs may not be used in cases:

  • Arising from worker’s compensation or self-insured health plan,[9]
  • Involving liabilities to refund the purchase price of or repair or replace products sold in the ordinary course of the transferor’s business,[10] or
  • Involving the obligation of the transferor to make payments to its general trade creditors[11] and debt holders relating to a bankruptcy case or workout.

 

 

[1] I.R.C. § 468B.

[2] I.R.S. § 524b.

[3] 45 C.F.R. § 164.512(e)(1)(i).

[4] Treas. Reg. § 1.468B-1(c)(2)(ii).

[5] Treas. Reg. § 1.468B-1(c)(2)(i); 42 U.S.C. § 103.

[6] Treas. Reg. § 1.468B-1(c)(2)(ii).

[7] Treas. Reg. § 1.468B-1(c)(2)(ii).

[8] Priv. Ltr. Rul. 14-90-64-(2005).

[9] Treas. Reg. § 1.468B(1)(g)(3)(1).

[10] Treas. Reg. § 1.468B(1)(g)(3)(2).

[11] Treas. Reg. § 1.468B(1)(g)(3)(3).