The scenario is not hard to imagine. An attorney has spent over a year litigating a hard-fought case involving a serious brain injury. The injured plaintiff is represented by an aggressive law firm whose principal trial lawyer has a winning record. Plaintiff’s wife has a valuable consortium claim. Various medical providers have liens that must be resolved. There is talk of a structured settlement.
The case is ultimately resolved on the eve of trial. Attorneys can breathe a sigh of relief and shift their focus, for a moment, back to their normal caseload. A few days later, plaintiff’s counsel will call and demand the seven-figure settlement amount be deposited into a Qualified Settlement Fund (“QSF”). Plaintiff’s counsel claims that using a QSF will allow the money to be held in trust, for the benefit of the injured client, while counsel works out all the details. The QSF will step into defendant’s shoes and thereby assume liability in exchange for a release. The request begets more questions.
What is a Qualified Settlement Fund?
A QSF is an account or trust established to resolve one or more claims that have resulted from a tort, breach of contract, or violation of law.i The fund must be established pursuant to an order of, or approved by, the United States, or any state, including courts of law, and subject to the continuing jurisdiction of the same.ii The fund must qualify as a trust under state law or otherwise keep its assets segregated from other assets of the transferor.iii
Why Use a QSF?
QSF claimants are typically not taxed on the funds held in trust until those funds are distributed.iv Instead, the QSF is taxed only on the income it earns on the initial deposit of money.v This tax treatment will allow the settling defendant(s) to pay money into the QSF in exchange for a release, while granting plaintiff’s counsel more time to contemplate important post-settlement items like tax strategy and/or allocation.vi This is a win-win scenario with no obvious downside for clients or their insurance companies.
i 26 CFR 1.468B-1(c)(2)
ii 26 CFR 1.468B-1(c)(1)
iii 26 CFR 1.468B-1(c)(3)
iv 26 CFR § 1.468B-2
v 26 CFR § 1.468B-2
vi 26 U.S. Code § 130