Executives must sometimes return bonuses or compensation received in an earlier year. Individuals are sometimes required to disgorge profits or pay restitution. Sometimes these payments may be deductible. Even better, taxpayers may be able to claim a refund for taxes paid on this income in an earlier year.
The tax treatment of restitution payments and disgorgement is complex. Under the tax doctrine known as the “claim of right,” taxpayers may be able to receive a refund of tax paid on income received in an earlier year. But there are numerous requirements to qualify and over the years the IRS has attempted to narrow the application of the claim of right doctrine.
Jon has advised taxpayers on restitution payments and the return of bonuses, including restitution payments paid pursuant to a court order following a criminal conviction and advising on the tax aspects of negotiating a voluntary return of a bonus to an investment fund. Because of the sensitivity of many of these situations, it is critical to receive advice from a tax adviser with relevant knowledge and experience.