Another big taxable damage case. $101 million wrongful imprisonment verdict announced.

In Boston Federal Court today US Judge Nancy Gertner announced a stunning verdict of $101 million in the wrongful imprisonment case brought in the notorious saga of the corrupt FBI arrangement with organized crime figures in the Boston area that has resulted in a string of admissions about the government knowing it's informants were killing other mob associates, but doing nothing about it.

In this particular case the four wrongly convicted men, the late Henry Tameleo and Louis Greco, and the still living Peter Limone and Joseph Salvati, had spent decades in prison doing time for the murder of Edward Deegan back in 1965 in Boston. They had been named by a former mob hit man, Joseph "The Animal" Barboza who was in fact lying in order to protect a fellow FBI informant, Vincent "Jimmy" Flemmi from being prosecuted for the murders. The FBI in Boston knew the four men were innocent, but kept silent in order to protect their corrupt ring of informants, thus allowing four innocent men to spend most of their lives in prison for a crime they never committed.

You can read news stories on this by going to the Boston Globe site and doing an archive search to access their years of reporting on this case.

However, what intrigues me is that once again, in less then a month since the Murphy vs IRS decision on July 3, 2007 we have a major $100 million or greater verdict on a taxable damages case, with the likelihood that these gentlemen and their estates are utterly unaware of the fact that they are about to face the further indignity of having to pay an enormous sum in taxes unless they and their attorneys elect to structure this award over several years.

The allocations according to news reports broke out to $26 million to Limone, $29 million to Salvati, $13 million to the Tamelo estate and $28 million to the Greco estate. Further the wives of Limone and Salvati and the estate of Tamelos deceased wife each were awarded slightly more then $1 million and the men's 10 children were each awarded $250,000.

So, lets once again do the gruesome match on taxable damages. Remember, unlike our prior illustration on the LA Archdiocese case where there was still some doubt as to maybe some of the damages might be tax free, in this case it is an absolute certainty that this is all going to be fully taxable.

Lets take Mr. Salvati as our example. His award of $29 million, coupled with $1 million to his wife would create a net taxable award of $30 million. Under the typical scenario his attorney is going to take at least a full third to 40% of the award as his fee, but as you will recall, under the Banks and Banatis supreme court rulings this fee is NOT tax deductible to Mr. Salvati or any of the others in this suit. Therefore, he must report the entire $30 million, even though he may only net $18 to $20 million after fees.

Still not bad you say? Well, lets do the very rough tax math here.

$30 million in taxable income. His federal tax rate is going to be 35% on the excess over $349,700. His state tax rate as a citizen of the Commonwealth of MA is going to be 5.3%. This is a combined top marginal tax rate of 40.3% on the vast majority of this income he is scheduled to receive. I think we can very safely assume that this individual is going to be facing at least a $12 million combined federal and state tax bill for his award for wrongful imprisonment.

So, if we deduct the attorney's fee of $12 million and his taxes of $12 million, our poor plaintiff and tax payer in this situation is left with $6 million net of his $30 million award. Talk about getting shafted by the US Government twice! First they take decades of his life due to FBI corruption and lying, and now the IRS and State Tax authorities receive twice the amount in taxes that this man will receive in his pocket!

Look at the tally here.

Attorney fee: $12 million

Taxes: $12 million

Plaintiff: $6 million

As I have written before, this is the single most grotesque distortion of the US Tax Code I can think of, and while most people are in utter disbelief that this is the truth, it absolutely is the case here. These plaintiffs are looking at tax bills well in excess of $10 million each.

So what can be done, if anything to minimize the financial trauma these families and their estates are about to experience at the hands of the federal and state tax men? As outlined in my previous blog post, they MUST engage a competent structured annuity expert with experience in handling taxable damage cases. They further must immediately get to work on obtaining the assistance of their attorneys in structuring the legal fees so the tax hits are spread out over several years, and then they need to look at structuring their own income out over several years as well. Go back and read my prior posts on the Archdiocese for the template on how to get this done.

Hopefully these men and their families get the planning assistance they desperately need, or come April 2008 they will be writing checks far in excess of what they could ever imagine and how is that justice for all they endured for so long? 

Comments

[nogods]

Wait a minute...damages for personal physical injuries or physical sickness are not taxable. If the U.S. had cut off their legs or arms, the damages would be excluded by IRC section 104. I think you are assuming that involuntary incarceration - which necessarily involves physical contact, is not a "physical injury". Do you know of any cases that have held that involuntary incarceration is not a physical injury? Murphy involved "feelings" not physical contact. When Big Ben the jail guard stick's his hand up your anus looking for jailhouse contraband, I'd say you got a physical injury.

[The Settlement Channel]

Well, actually the basis by which tax free is determined under section 104 of the IRC is the "origin of claim". In other words, was the claim's origin a physical injury, such as a car accident, hand chopped off, slip and fall.

In wrongful imprisonment the origin of claim by it's very nature is not a physical injury, and any subsequent physical injury that might occur in prison don't then change the status in the eyes of the IRS.

It's unfair, it's illogical and it's wrong, but those are the facts. As I keep telling people you need to talk to your congressman and senator to ask how in the world this inequity has been allowed to exist in the tax code since 1996.

[nogods]

"In wrongful imprisonment the origin of claim by it's very nature is not a physical injury,"...I'm not so sure that conclusion is correct. Wrongful "conviction" might not be a physical action, but imprisonment necessarily involves some sort of physical restraint. Moreover, it is not just the nature of the incident. For example, what if a mother is in a car with her child during an accident. The mother is uninjured but she suffers emotional distress from watching her child get seriously injured in the accident. The mother's recovery for emotional distress would be taxable. The child's recovery would not. The fact that both emanated from an auto accident would not change the tax consequences. And, if the mother subsequently experienced a physical manifestation of her emotional distress - such as rapid weight changes, vomiting, sleeplessness, etc., she could recover for those physical injuries and that portion of her recovery would be excluded by section 104.

[The Settlement Channel]

In the example you mention, of the mother in the case who witnessed the physical injury of her child, and then manifested physical symptoms after the fact as a result of the emotional distress, you still don't reach the standard established by the court in Murphy to qualify as tax free.

Although the child would clearly be tax free as a physical injury, and the mother could, if she had a "consortium claim" would most likely would be tax free, the way you frame the senario would still make her emotional distress claim taxable. If her only claim were a personal injury emotional distress as a bystander, a perfectly valid claim by the way, and not as a party to the daughters claim or injury, then her emotional distress claim is going to be taxable post Murphy. The Murphy case specifically discussed the post stress physical issues such as teeth grinding, ulcers, etc, and they weren't swayed, but instead went back to the origin of claim which was not a physical injury.

But lets go back to the wrongful imprisonment situation. I've talked with several tax experts on this since the Murphy vs IRS decision came out, and they universally agree that wrongful imprisonment cases are going to be fully taxable events. Now, this doesn't mean a brave tax payer and an equally brave CPA are prevented from filing with this as a tax free award based on your argument, but if you read Murphy and look at the history chances are very good that the tax payer is going to eventually lose that case with the IRS.

Again it stinks, but after the extensive decision written by the court on Murphy there really isn't any wiggle room on this in my opinion.

[Jack]

nogods, the IRS has established an observable harm standard. If you can't see the injury, it's taxable.

[The Settlement Channel]

Great point Jack. Thanks for adding that. I was struggling to define the IRS standard and you got it right.