Rev. Rul. 80-364

ISSUE

Whether interest and an attorney's fee awarded by a court in connection with a claim for back pay are wages for federal employment tax purposes.

FACTS

Situation 1. After termination of employment by a company, an individual filed a complaint against the company for back pay owed to the individual. The court awarded the individual 8x dollars as back pay, and also awarded interest of 1x dollars and an attorney's fee of 1x dollars.

Situation 2. An individual sued the individual's employer for 15x dollars for back pay. Pursuant to a court order the employer made a payment to the employee of 10x dollars. The court order did not indicate that a portion of the award was attorney's fees or interest. The employee paid 1x dollars for an attorney's fee which was paid out of the award.

Situation 3. Due to a breach of a collective bargaining agreement a union filed claims on behalf of its members against a company. Subsequently, the union and the company entered into a settlement agreement, later approved by a federal district court, that provided that the company would pay the union 40x dollars in full settlement of all claims. The union paid 6x dollars of the settlement for attorney's fees and returned 34x dollars to the employees for back pay owed to them. The back pay was distributed among the employees in proportion to their claims.

LAW AND ANALYSIS

Section 61(a) of the Internal Revenue Code provides that gross income means all income from whatever source derived, including compensation for services.

Section 3121(a) of the Code relating to the Federal Insurance Contributions Act and section 3306(b) relating to the Federal Unemployment Tax Act provide that the term "wages" means all remuneration for employment. Section 3401(a), relating to income tax withholding, contains a similar definition.

Rev. Rul. 72-268, 1972-1 C.B. 313, holds that payments by employers for previously unpaid minimum wages and overtime compensation under the Fair Labor Standards Act of 1938 are wages for federal employment tax purposes. However, payments of liquidated damages to employees under the Act are not remuneration for employment and are not wages.

HOLDINGS

In Situation 1, while the full amount of the award is income to the employee and must be included in the employee's gross income, only the back pay award of 8x dollars is wages for federal employment tax purposes. The payments for interest and the attorney's fee are not wages, because they are not remuneration for employment.

In Situation 2, the full amount of the award is income to the employee and it is also wages for federal employment tax purposes, notwithstanding that a portion of it was spent on attorney's fees.

In Situation 3, the amount of the settlement paid by the union for attorney's fees is not remuneration to the individual employees and, therefore, is not wages for purposes of the federal employment taxes. The attorney's fees portion of the settlement is a reimbursement for expenses incurred by the union to enforce the collective bargaining agreement. The amount allocated to attorney's fees is not includible in the gross income of the individual employees and the individual employees may not deduct the attorney's fees as a business expense. Compare Rev. Rul. 58-301, 1958-1 C.B. 23.