Business Crimes Hotline

In the CCA, the taxpayer in question violated the books and records and internal accounting controls provisions of the Foreign Corrupt Practices Act (FCPA). The taxpayer subsequently entered into a consent agreement with the SEC that required a disgorgement of the profits gained as a result of the underlying conduct. Along with the disgorgement, the taxpayer also agreed to pay a penalty, and agreed that the penalty would not be deductible for tax purposes.

Using section 162(f) of the Internal Revenue Code, the IRS determined in the CCA that the disgorgement payment also was not deductible in this instance, as it was a “fine or penalty.” While the taxpayer argued that the payment was to encourage prompt compliance with securities laws and was a compensatory or remedial measure, the IRS rejected both arguments. First, the taxpayer argued the payment was to encourage prompt compliance. Courts explain that civil penalties are deductible if they are to encourage prompt compliance with the law, such as a late filing charge or interest charge. The IRS dismissed the argument, stating that the taxpayer could not explain the difference between “compliance” and “prompt compliance,”to show the nature of the payment. Second, the IRS noted that “the tax treatment depends on whether the payment is more punitive or compensatory.” Compensatory payments typically flow to the injured party, and there existed no allegation that the United States Government, as the receiving party of the disgorgement, had been injured. The IRS did limit its position as case-specific, stating that not all disgorgement payments were nondeductible, specifically noting that the IRS had previously allowed a deduction for disgorgement in a separate matter. Here, however, they determined the taxpayer's payment to be primarily punitive. The taxpayer finally argued that no language disallowed the deduction. The IRS discarded this view as well, stating, “the absence of a provision prohibiting a deduction for disgorgement does not create a negative implication.” ' Nicholas McCoy, Mayer Brown

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