Potential Consequences of Resolving Disputes with Former Employees
Many employers will face a dispute with a former employee. Some of these disputes will lead to a payment being made by the employer to the employee, either through a severance agreement, settlement, or judgment. When such a payment is made, the employer needs to be aware of how to report such a payment to the IRS.
Recently, the IRS issued guidance on how to classify payments that include attorney’s fees paid to a former employee in resolution of a dispute. In determining how to classify payments, a four step process is used:
1. determine the character of the payment and the nature of the claim that gave rise to the payment;
2. determine whether the payment constitutes an item of gross income;
3. determine whether the payment is wages for employment tax purposes; and
4. determine the appropriate information reporting for the payment and any attorney’s fees.
Depending on the structure of the settlement agreement, severance agreement, or judgment, the employer may need to include attorney’s fees on the former employee’s W-2, but in some cases, the attorney’s fees paid will be included on a Form 1099-MISC.
Understanding the reporting requirements potentially can assist an employer who is attempting to resolve a dispute with an employee or former employee. More importantly, understanding the reporting requirements can avoid the imposition of penalties on the employer in the event of an IRS audit. If you find yourself in a situation in which you are resolving a dispute with an employee or former employee, the attorneys at McCleskey, Harriger, Brazill & Graf, L.L.P. can assist you.