Note

Tax Rules!

The Deductibility of Disgorgement Payments Under Section 162(f)

The SEC has the power to order businesses to disgorge ill-gotten gains. Thus, when a business profits from violating securities law, it must give back the profits, often either to the SEC directly or to the victims harmed by the violation. Even though disgorgement is not directly a question of tax law, like all transactions, disgorgement has tax implications.

Section 162 of the Internal Revenue Code allows businesses to deduct “ordinary and necessary” business expenses from their tax returns. Subsection (f) of Section 162 provides an exception to this rule, saying that no deduction is allowed when a governmental entity orders a business to pay due to some violation of a law, unless the payment constitutes restitution. This Note analyzes whether disgorgement payments are restitution and if they may be deducted under Section 162(f).

Treasury regulations promulgated in January 2020 speak directly to this question, but a close look at typical SEC cease-and-desist disgorgement orders reveals that the regulations are not well-tailored to SEC-ordered disgorgement. This Note argues that disgorgement is restitution when the payments go out to victims. Hence, these types of disgorgement payments should be tax deductible under Section 162(f). Finally, this Note recommends that Treasury should amend its 2020 regulations to be more tailored to the content of SEC cease-and-desist orders. Doing so would be more in line with Congress’s intent in passing Section 162(f) and tax policy.

a. J.D. Candidate, 2023 University of Illinois College of Law; B.A., 2018 Northwestern University. I would like to thank my dad for guiding my interest in tax law and both of my parents for their love and support. I would also like to thank Professor Kaplan and Professor Colombo, whose exceptional clas-ses and advice were instrumental in helping me write this Note. Lastly, I would like to thank the Uni-versity of Illinois Law Review staff, members, and editors for their hard work on this Note.

The full text of this Note is available to download as a PDF.