Risk of Rewards

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01Feb2011

Risk of Rewards

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By James DeCrescenzo

risk of rewardsEveryone loves something for nothing. Marketers invest a lot of time and effort trying to appeal to that trait. A recent trend in the legal arena has seen an explosion of so-called “rebates” programs and expensive gifts and rewards to attorneys or their staff for scheduling depositions. It is important to be aware that accepting these so-called “rebates” offered by court reporting firms may attract the attention of the Internal Revenue Service. Some secretaries and paralegals are participating in the rebate programs without the knowledge of the firm or attorney. The rebates, in the form of cash, gift cards, travel, and shopping are made to influence the selection of court reporting firms when scheduling depositions.

Court reporting companies had historically been local mom-and-pop operations. Over the past several years, consolidation has taken hold, as well as an influx of non-court reporting principals, including lawyers, buying and running court reporting firms. To maximize the return on investment, many of these firms have expanded beyond their city of origin.

Along with the trend to consolidate and expand has come the push to gain new business. In the early ‘90s salespeople began delivering trays of cookies and providing other low-cost items to lawyers and their staff. What began as an inexpensive treat has grown to the point of some court reporting firms proudly posting on their Web sites programs to earn “points” for every deposition scheduled.  The points may be redeemed for all-expenses-paid vacation, limousine travel, rounds of golf, and the like. One recent flier boasted, “You Book the Depo, We’ll Bring the Dom. Take your next deposition with us, and we’ll hand deliver a complimentary bottle of the world’s finest champagne, Dom Perignon.” In the fine print the firm, whose president and vice-president are lawyers, offers the option of a donation to charity or a $125 State Liquor Store gift card.

gifts

Some firms offer points for scheduling depositions
which can be redeemed for all sorts of “gifts.”

Free iPods, mall gift certificates, theater tickets, cash, rounds of golf – there are anecdotal reports in court reporting circles of payments in excess of $25,000 going to a secretary to switch court reporting firms.

For convenience, I’ll lump all gift, incentive, and reward point programs into the title “Rebate.”

The first question is who is entitled to the rebate? The answer to this question is not as simple as it might seem. If the rebate benefits an attorney’s staff member, becoming, in effect, a “perk” of the job, that is one thing. If the rebate benefits the attorney, then another set of issues is put into play. For example, shouldn’t any benefit received go directly to the lawyer’s client who is paying for that product or service? While not on the level of the entertainment industry’s $100,000 gift bags, an active litigator or his staff can accumulate rebates valued in the thousands of dollars a year. As suggested, this raises both ethical and tax questions.

Gift bags had been a common practice in the entertainment industry since the 1970s. The Internal Revenue Service decided in 2006 to begin cracking down on gift bags. The IRS is always looking for ways to collect more tax dollars from high-income taxpayers. The companies who “donate” these items aren’t really intending to make gifts. Since the donors will usually take the cost of the gifts as a business deduction, the IRS is looking to the recipients for payment of the tax. Is it any surprise the value of the entertainment industry gift bags has dropped dramatically since 2006?

This level of tax-responsibility awareness hasn’t yet reached the court reporting firms and law firms involved in today’s expensive rebate programs. In fact, according to tax practitioners I have consulted, the Internal Revenue Service would look at the situation like this: Whether the rebate is paid to the law firm or to an employee of the firm, and whether it’s accomplished though an immediate transfer of the rebate property or service or by way of a “points accumulation system,” there is no reason for excluding it from the recipient’s taxable income. It is plainly not a gift, because the court reporter is anything but disinterested when it comes to wanting to influence the recipient’s decision-making as to future court reporting services.

If the recipient is the law firm, ethically speaking, it should be a wash to the law firm. The law firm is under an obligation to give its client the benefit of the reduced cost reflected in the value of the rebate. Only if the law firm is charging the client the full value of the service would the firm have income equal to the value of the rebate. To use a simple example, let’s say that the reporter charges $100. The law firm passes the $100 expenses through to the client. The result is a wash. Then, if the rebate is $10, the law firm pays the reporter a net $90 cost through to the client. Again this is a wash.

But if the rebate is $10, and the law firm charges the client the $100, then the firm has $10 income. That is, the $100 charged to the client, less the $90 net paid to the court reporter. This raises what the lawyers like to call “some nice questions” about not only whether the client should get the benefit of the rebate, but also if the rebate is accreted over time and paid out at some future date, then which client or clients should get the benefit, which is a problem called partitioning.

It must also be said that if the recipient of the rebates is either a subordinate employee or the firm, or an attorney employee or a partner, then the value of the rebate is clearly income to the individual. The question is complicated, however, for the employee or partner if the value of the rebate is not transferred for the benefit of the firm.

Accepting rebates would clearly violate most law firms’ gift policies, unless the value was truly trivial under those policies, for example, a box of candy. Vendor rebate programs involving non-trivial amounts are precisely why law firms and some insurance carriers have such policies forbidding acceptance of “gifts.”

IRSIn 2006, the IRS began cracking down on gifts. Court reporters have to carefully understand and report gifts and rebates, and watch out for kickbacks.

Seen from the court reporters’ standpoint, the situation is, if anything, even more complicated. The reporter generally would be required to provide an IRS information return to the recipient if the annual value of the rebate exceeds $600. The rebate would be deductible by the reporter unless it’s a bribe, kickback, or other illegal payment under U.S. law or under generally enforced state laws that provide for criminal penalties or loss of license. Section 162(c)(2) of the Internal Revenue Code says that a kickback includes “payment in consideration of the referral of a client, patient, or customer.” So where does that leave the too-generous court reporter? Not in a very enviable position.

Obviously, a more in-depth discussion of the legal and ethical implications of this situation may be forced upon those who participate in giving and/or receiving these excessive gifts from court reporting firms.

The message is clear though, as underscored by knowledgeable tax attorneys: No court reporting service should venture into the world of rebates without a solid understanding of the potential problems they are creating for themselves and for their customers – both the attorneys and their clients.

By James DeCrescenzo, RDR, CRR, CLVS, Philadelphia, Pa.

Atkinson-Baker Court Reporters sometimes incorporates opinion pieces in order to provide a fresh angle to our readers about relevant or timely issues. We invite you to also submit your articles to the editor.

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