How Legal Funding Impacts Taxes
A lack of money can put a personal injury case in jeopardy. A pre-settlement advance can help a lawyer and plaintiffs, but there are tax considerations with pre-settlement funding. This can eventually affect your finances even with the new IRS tax deadline of July 15. Extended from April 15 due to the outbreak of the COVID-19 virus, this change means you can file taxes and defer federal income tax payments without penalties or interest.
Taxation on Litigation Financing
In many cases, your cash advance is not taxable. That’s because it is paid back as part of your settlement. Even if the case doesn’t reach a settlement or the judgement isn’t successful for the plaintiff, the cash advance is not taxed. It’s not considered income despite being money gained for personal use. However, an advance is considered taxable if:
- You use the proceeds from an advance to support an investment.
- You lose the case and receive a 1099 from the pre-settlement funding company.
Sometimes, litigation financing documents are written as sales, which are taxable. Under this rule, taxes must be paid up-front. Some funders use a prepaid forward contract, which is a sales contract with an undetermined final sales price, or the as-of-yet to be determined settlement amount. It essentially calls for a future sale, which doesn’t close until your case reaches a resolution. After all, signing a contract for a cash advance means you’re agreeing to sell a portion of your case.
The IRS has specific requirements for contracts to qualify for this arrangement. If you do qualify, up-front payments from litigation funders don’t have to be reported until the conclusion of your case. There’s no immediate tax on your upfront cash payment.
Can I Be Taxed on My Lawyer’s Funding?
Even if your attorney alone receives funding, you can have a tax obligation on it. Therefore, it’s important to ask the litigation finance company about taxes. You may want to consider the sale documentation option, which means you still benefit from a cash advance over a loan.
Why Pre-Settlement Funding Differs from a Loan
Loans also don’t require upfront tax payments. But while a loan is easier to document, it doesn’t have many of the advantages that litigation funding does. The terms of a loan are stricter in general. You’re always required to pay it back, whether you win or lose your case or what the nature of your claim is. The lender will require you start making regular installment payments right away, even if you’re out of work and dealing with a loss of income due to your injury.
A pre-settlement advance is only paid back if your case wins. Otherwise, your nonrecourse debt is not repaid and you get to keep the money. With no obligation for repayment, the advance does not become a difficult financial burden. In fact, you never have to hand over any cash; the lawsuit funding amount will be taken directly from your settlement proceeds, with the remainder being yours to keep.
Apply with FCA Legal Funding
FCA Legal Funding offers a no-hassle, simple way to receive a pre-settlement advance. Apply online in minutes and we’ll speak to your attorney about your personal injury lawsuit. Our approval process is fast, and you pay nothing out of pocket. We offer several advance programs to meet your exact needs and ensure your attorney can work to get the compensation you deserve. Call us at 310-424-5176 to discuss your options and receive help from our experienced litigation finance professionals.