the accountant & the law rl-lb

The Accountant and the Law

Cooper Levenson, Attorneys at Law

Randolph C. Lafferty, Esquire

Lindsay T. Byrne, Esquire

Computation of:

Loss of Past Earnings

Loss of Present Earnings

Loss of Future Earnings

Personal Injury: What Role Does the Accountant

Play

The trial attorney has two choices:

Utilize the accountant to present gross amount of lost wages and HOPE the jury understands the complex, four page, jury charge on how to discount future losses to present value; or

Use a CPA to discount future losses to present value. (Preferred Method)

Future Loss of Earnings

Specialized and often overlooked cause of action!

MILLIONS of dollars have been recovered utilizing this recognized cause of action!

Most attorneys are oblivious to this type of claim!

Rarely utilized in New Jersey

Loss of a Key Employee

New Jersey Rule: An employer is entitled to damages against a third party for the loss of services of a key employee injured by that third party.

Loss of a Key Employee

Inquire as to the character of the business

Personal services?

Personal relationships?

Special attention?

Is the value of services worth substantially more than the cost of replacement?

How Can I Tell If My Client Has A Key Employee?

Injured employee has personal relationships that have a value in the commercial world recognized by “any business man”

Special knowledge/skills not easily acquired by others

Employment based on personal attention, characteristics, and/or labor

How Can I Tell If My Client Has A Key Employee? (Cont’d)

Lost profits are not dispositive

Easier to prove with smaller businesses

Must differentiate profits from personal endeavors, skills, and attention versus investment of capital and labor

How Can I Tell If My Client Has A Key Employee? (Cont’d)

Similar to New Jersey

Loss of profits alone are not sufficient to state a cause of action

However, if lost profits are due to personal management and endeavor, they are an accurate measure of earning capacity and losses

How Does Pennsylvania Handle the Loss of a Key Employee?

Employers cannot recover!

Generally, you cannot bring suit for the loss you suffer from another's death/injury unless the third party owed a specific duty to the employer.

Key Employee: National Trend

Lost profits are not dispositive on their own.

Woschenko rule and exception

Attorneys and accountants must work closely to be successful with this cause of action.

Helping Your Client to Prove They Have (or Are) Key Employees

Role of the accountant

Extrapolate future lost profits

Prior/current lost profits

Costs of replacing the injured employee

Tracing business income to injured employee’s efforts

Role of the attorney: Focus on factual inquiries

Loss of a Key Employee

Commercial, Criminal & Business Litigation

Comes into play with either anticipated or actual business disputes

Partner with an attorney in a myriad of circumstances

Economic damages calculations whether suffered through tort or breach of contract

Post-acquisition disputes

Earnouts

Breaches of Warranties

Forensic Accounting

Bankruptcy, insolvency, and reorganization

Securities Fraud

Tax Fraud

Money Laundering

Business Valuation

Computer forensics/e-Discovery

Forensic Accounting (Cont’d)

Trial attorney is presented with a small window

Once the compensatory damage verdict is entered, the jury determines punitive damages are warranted, now what?

Net worth and ability to pay suddenly become relevant!

Forensic Accounting in Punitive Damages Litigation

• Judge orders the tax returns and financial statements be produced and tells the parties to be prepared to proceed tomorrow!

• The accountant is key: he/she analyzes the financials overnight, testifies in the morning, and explains to the jury, in a manner understandable to the lay man, the financial composition of a multi-tiered corporation.

Forensic Accounting in Punitive Damages Litigation (Cont’d)

Accounting Consequences in Litigation Recoveries

General Rule: Monies received for personal injury, including pain and suffering, are not taxable.

Internal Revenue Code, Section 104

Internal Revenue Code, Section 104 Exceptions

Punitive Damages – Exempted by the Small Business Job Protection Act of 1966

Damages attributable to back pay, front pay, lost earnings, and future loss of income are included as gross income.

Employment litigation claims generally taxable

Section 104(a): “emotional distress shall not be treated as a physical injury or physical sickness.”

Internal Revenue Code Section 104 Exceptions

The Rodman Rule

A settlement was reached in the amount of $200,000.00

Settlement agreement included a confidentiality clause

A liquidated damages clause was included which provided that if there was a material breach of the Confidentiality Clause, Rodman would get his $200,000.00 back

The Rodman Rule (Cont’d)

The dispute between Amos and the IRS was over the interpretation of IRC Section 104(a)(2) regarding the interpretation of “physical injury”

The Test: What was the dominant reason for the settlement?

Amos claimed the dominant reason was “physical injury” and the IRS claimed it was confidentiality

The Rodman Rule (Cont’d)

The Result: Apportionment by the Tax Court

$120,000 for physical injury (non-taxable)

$80,000 for the confidentiality clause (taxable)

The Rodman Rule (Cont’d)

Do not agree to a confidentiality clause

Make a specific allocation within the Settlement Agreement

Include reciprocal promises of confidentiality

Include an indemnity provision that the settling party must reimburse the recovering party for tax consequences

Seek a private IRS ruling in advance of the settlement

How to Avoid the Rodman Rule

Burden is on the recipient of damages/settlements for personal injury to establish that they are nontaxable

The Burden of Proof

The Test: Is the settlement compensatory rather than purely economic in function

Critical Factors

Intent of the parties is controlling

Is the payment on account of “personal physical injuries or physical sickness”

The parties, with the advice of their accountants generate these documents

The Burden of Proof (Cont’d)

Generally Accepted Accounting Principles (GAAP)

The Standard

Questions?

Thank You!