As someone who has worked in the settlement and tax industry for numerous years, I have seen the various complexities of settling cases. One tool that has become increasingly popular in recent years is Qualified Settlement Funds (QSFs). In this paper, we discuss the benefits of QSFs, the complexities that come with them, and tips for effective implementation.
A QSF is a legal arrangement used to settle a lawsuit or claim. It is essentially an escrow account that holds the funds from a settlement until they can be distributed to the appropriate parties. However, it is more than a simple escrow account, a QSF is a Statutory Trust. (More on this below).
One of the key benefits of a QSF is that it allows the plaintiff to defer taxes on the settlement until the distribution of the funds. This feature can be beneficial in cases where the settlement amount is large and the plaintiff would incur a significant tax liability.
A governmental authority must establish a QSF, and a QSF trustee/administrator oversees the QSF administration. The administrator is responsible for managing the funds in the QSF and administering the distribution process.
There are several benefits to using a QSF in settlements. One of the most significant benefits is the ability to defer taxes. This advantage can be beneficial in cases where the settlement amount is large and would result in a significant tax liability for the plaintiff. By employing various tax strategies to defer taxes, the plaintiff can keep more settlement funds and use them to cover expenses or invest for the future.
Another benefit of using a QSF is simplifying the settlement process. Instead of negotiating individual settlements with each plaintiff, the defendant can make a single payment to the QSF. The QSF administrator can then distribute the funds to the appropriate parties, saving time and reducing the administrative burden of settling a large case.
One of the critical components of a QSF is that it is a “statutory trust.” The QSF, as a statutory trust, is created, approved and registered by the government authority approving the QSF as a legal entity that is separate from the QSF administrator and the plaintiffs. The statutory trust is formed when the QSF is approved by the governmental entity and thus established.
A statutory trust is a type of trust created by statute, meaning it is established by a specific law or regulation, in this case, IRC §1.468B-1 et seq., rather than through the traditional trust agreement.
The Restatement of the Law Third, Trusts (Restatement) defines a statutory trust as:
“a trust created by statute other than a trust created by a judgment or decree that imposes a constructive trust, resulting trust, or other trust that arises by operation of law.” 1
The Restatement further clarifies that a statutory trust differs from other trusts; its establishment is governed by a specific law or statute, which provides the rules and guidelines for the trust’s creation, management, and operation. This “statutory basis” differs from a traditional trust agreement, created through a private contract between the settlor (the person creating the trust) and the trustee.
Statutory trusts are commonly used in business and tax contexts, particularly in forming investment funds, real estate investment trusts (REITs), and various tax arrangements.
The Uniform Trust Code (UTC) is a set of model laws governing trusts, which has been adopted in some form by many states in the United States and also addresses the definition of statutory trusts. The UTC includes provisions related to statutory trusts, similar to the Restatement’s definition.
The UTC defines a statutory trust as:
“a trust created by the filing of a certificate of trust with the secretary of state or similar officer, or as otherwise provided by statute.”
This definition emphasizes the statutory requirement for a formal filing or registration process with a government agency or official. The definition thus applies to QSFs, as IRC §1.468B-1(c) enumerates the statutory requirement for a formal filing, approval, and registration process with an empowered governmental authority.
The UTC also includes terms and provisions which govern the management and operation of the trusts, including the authority of trustees, the rights of beneficiaries, and the procedures for terminating or modifying the trust. Additionally, the UTC provides rules for the liability of trustees and beneficiaries and requirements for trust accounting and record-keeping.
Overall, the provisions related to statutory trusts in the UTC provide guidance and rules for establishing and operating statutory trusts like QSFs.
In summary, a QSF is a statutory trust created by a specific law or statute (i.e., §1.468B-1 et seq.), and as such, it differs from other private trusts agreements in that it is established by law rather than through a private trust agreement.
No, beneficiaries (claimants) of a QSF do not have to sign the trust agreement because a statutory trust can only exist through a formal filing or registration process with a government authority rather than through a traditional private trust agreement.
A QSF, as a statutory trust, is only created by a proper filing with the appropriate governmental authority, which includes information about the QSF’s terms and conditions, the trustee’s identity, the qualification of the QSF, and the rights, limitations, and responsibilities of the beneficiaries. The associated documents are available, and QSF beneficiaries can review them to understand their rights and obligations under the trust.
Finally, per applicable statutes and a wide array of case law, beneficiaries of a statutory trust are not involved in creating or managing the trust, their role is limited to receiving the benefits provided by the trust, and they are bound to the terms of the statutory trust. The trustee is responsible for managing the trust and making decisions regarding the distribution of trust assets to the beneficiaries in accordance with the terms of the trust agreement and the applicable state and federal laws.
While there are many benefits to using a QSF in settlements, complexities exist; one of the most significant complexities is the tax implications of using a QSF. Because the funds in the QSF are a statutory trust, they are subject to specific tax rules and regulations. Working with an experienced tax professional ensures the QSF satisfies all qualification requirements. Another complexity associated with QSFs is the distribution of funds. The QSF administrator is responsible for distributing the funds to the appropriate parties, and this can be a complex process. Working with an experienced administrator familiar with the QSF process, such as UCC and bankruptcy lien identification, is essential.
If you are considering using a QSF in a settlement, several tips can help ensure effective implementation. First, it is crucial to work with an experienced QSF administrator who is familiar with the process and can help to navigate the complexities associated with QSFs. Second, it is essential to work with an experienced tax professional who can ensure that the QSF satisfies the qualification requirements of §1.468B-1 et seq. Finally, it is crucial to communicate clearly with all parties involved in the settlement to ensure everyone understands the process and their role in it.
When selecting a QSF administrator, there are several factors to consider. First, selecting an administrator who is experienced with QSFs and familiar with the process is essential. Second, selecting an administrator with a demonstrated track record of success is likewise imperative. Finally, as some QSF administrators take weeks or longer to disburse funds, selecting an administrator who disburses funds timely, is responsive, and is easy to work with is crucial.
As mentioned earlier, there are several tax considerations associated with QSFs. One of the most significant tax considerations is the deferral of taxes. The tax deferral can benefit plaintiffs, particularly in cases where the settlement amount is significant. Because a QSF holds the funds in trust, they are not subject to tax until distributed.
Another tax consideration is the reporting and payment of taxes. The QSF administrator is responsible for filing tax returns and paying taxes via IRS Form 1120-SF on behalf of the QSF. Working with an experienced tax professional is key to ensuring the QSF satisfies the qualification requirements enumerated in IRC §1.468B-1(c).
Careful consideration is warranted when deciding between a QSF and a defense-provided structured settlement. Another factor to consider is the flexibility of the settlement. With a QSF, the plaintiff has more flexibility in how the funds are distributed and can use them as needed. Most importantly, with a defense provided structured settlement, the plaintiff is usually locked into a lower payment schedule that can be less than what might be otherwise available in the insurance marketplace.
Working with an experienced attorney, plaintiff-oriented settlement consultant and tax professional is essential to determine the best option.
Navigating the complexities of QSFs can be challenging, but with the right team in place and platforms like QSF 360, it can be an easy and effective tool for settling single and multi-plaintiff cases. By working with experienced QSF administrators and tax professionals, plaintiffs can defer taxes, simplify the settlement process, and gain more flexibility in disbursing settlement funds. If you are considering using a QSF in a settlement, research and work with a team with the experience and expertise to ensure effective implementation.
1 American Law Institute. Restatement of the Law Third, Trusts. St. Paul, Minn: American Law Institute Publishers, 2003. Section 2.13 of the Restatement.
BP OIL SPILL/
DEEPWATER HORIZON
INDONESIA JETCRASH FLIGHT 152
AIR PHILIPPINES FLIGHT 531
VW GROUP OF AMERICA INC SETTLEMENT (DIESEL CASE)
3M
AMAZON
GENERAL MOTORS
MATCH
INTUIT MULTI-STATE SETTLEMENT
BERNARD MADOFF
PURDUE PHARMA
POLARIS INDUSTRIES
