Tax Reduction and Deferral Strategies for Trial Attorneys – Part 2

I Overview

Part I of this series focusing on tax reduction and deferral strategies for trial attorneys with contingent fee income examined the use of private placement variable deferred annuities in lieu of fixed annuities for structured settlement payments to trial attorneys. Part 2 of this series will focus on the use of closely held insurance companies (aka captive insurance arrangements) to provide tax reduction and deferral on contingency fee income. The captive insurer can function as a multi-line insurer (property and casualty as well as life insurance) and issue the structured settlement annuities for contingency fee deferrals referenced in Part I of this series.

Trial attorneys representing plaintiffs are among the mostly highly compensated professionals in our Society. These lawyers are very entrepreneurial from both a legal and financial perspective. The majority of their income is from contingency fees – 30-40 percent in most cases. Trial attorneys are only compensated if they win a jury verdict or favorably settle the case for the plaintiff. Some of these cases take years to settle and the financial investment of the law firm in expert witness and other expenses is significant. In the aggregate, trial lawyers nationally earn $50 – 70 billion per year. In [i]many cases, trial attorneys have “spiked” income events as a result of a settlement or jury verdict every two-three years, but the income can be quite substantial.

Trial attorneys are limited in their ability to reduce and defer taxable income. Deferred income in qualified plans such as a defined contribution plan has a contribution limit of $50,000 in 2012 and a salary cap of $250,000. Most trial attorneys have not utilized structured settlement annuities which are conservative fixed deferred annuity products issued by large life insurers. The trial attorney forfeits investment control and flexibility through the structured settlement annuity purchase. Part I of this series advocated the use of a private placement variable deferred annuity (PPVA) as a vehicle for structured settlement annuities. PPVAs are institutionally priced and provide for unlimited investment flexibility.

Additionally, many successful and wealthy trial attorneys own other businesses outside of the law firm. Many of these businesses are successful in generating additional income as well and become valuable assets on the trial attorney’s balance sheet.

The closely held insurance company is an insurance based strategy that reduces current taxable income as well as providing for long-term tax deferral. The strategy can also provide powerful estate and gift tax planning benefits.