Neutralizing the Adverse Effect of State and Federal Income Taxes on Lump Sum Awards in Employment Cases

This paper provides a methodology to ‘‘gross-up’’ an award when estimated losses are taxable such as in employment (e.g., wrongful termination or discrimination/retaliation) and non-physical injury cases. This solves a simultaneity problem wherein the award amount is a function of the income taxes paid, and these taxes are a function of the award plus other income in the year the award is received. This paper makes two contributions. First, it provides ‘‘gross-up’’ calculations in the context of several factors impacting income tax: investment income, Social Security and Medicare taxes, and Net Investment Income Taxes (NIIT) in the context of the Tax Cuts & Jobs Act of 2017. Second, it uses spreadsheet functions to iterate a user-friendly solution using an example calculating state and federal income taxes, Social Security/ Medicare taxes, and NIIT to determine the award. We also compare the accuracy of an approximation ‘‘gross-up’’ formula to the correct solution.