When whistleblowers win their cases, it is often years after they got fired.  When a judge adds up all the years of back pay, the whistleblower will then have to pay taxes from a higher tax bracket. Whistleblowers can end up getting less than what would have happened had they never been fired.

Last month, the federal Third Circuit Court of Appeals recognized this problem and allowed a court to increase a plaintiff’s award to compensate for the negative tax consequence of getting back pay in a lump sum.  The decision is Eshelman v. Agere Systems, Inc., No. 05-4895 (3d Cir. Jan. 30, 2009). The decision highlights the need for the Civil Rights Tax Relief Act.

Joan Eshelman started working for Western Electric in 1981. Over twenty years, and more than one change in corporate ownership, Joan became a supervisor in the Chief Information Office for Lucent Technologies in Reading, Pennsylvania.  Tragedy struck Joan when she was diagnosed with breast cancer.  She needed time off from work, and chemotherapy. Still, she received excellent evaluations, raises and promotions.  In 2001, however, the new owners, Agere Systems, chose Joan for a layoff.

Joan sued claiming that she was selected on account of her perceived disability.  A jury agreed and awarded $170,000 in back pay and $30,000 in compensatory damages.  The company asked the judge to set aside the jury verdict, and Eshelman’s attorneys asked the judge to increase the amount of backpay to compensate Eshelman for the tax consequences of being in a higher tax bracket.  The judge agreed with Eshelman’s attorneys and increased the award by $6,893.  Agere appealed.

The Court of Appeals affirmed on all counts.  As to the upward adjustment for the tax consequences, the Court noted that in the Americans with Disabilities Act, “Congress armed the courts with broad equitable powers to effectuate this ‘make whole’ remedy.” Whistleblower laws, of course, have the same provision for “make whole” remedies.  Citing the Supreme Court decision in Albemarle Paper Co. v. Moody, 422 U.S. 405, 418 (1975), the Court said that district courts are granted wide discretion to “locate ‘a just result’” regarding the parameters of the relief granted in the circumstances of each case. Courts should endeavor “to restore the employee to the economic status quo that would exist but for the employer’s conduct.”

As backpay awards are taxable in the year paid, “employees may be subject to higher taxes if they receive a lump sum back pay award in a given year.” The Court noticed that the Tenth Circuit reached the same result in Sears v. Atchison, Topeka & Santa Fe Ry. Co., 749 F.2d 1451 (10th Cir. 1984). Without this type of equitable relief in appropriate cases, it would not be possible “to restore the employee to the economic status quo that would exist but for the employer’s conduct.” The Court compared the tax compensation award to prejudgment interest, which also “serves to compensate a plaintiff for the loss of the use of money that the plaintiff otherwise would have earned had he not been unjustly discharged.” Front pay awards and restoration of seniority can serve similar purposes. “This type of an award, as with prejudgment interest, represents a recognition that
the harm to a prevailing employee’s pecuniary interest may be broader in scope than just a loss of back pay,” the Court added. “Accordingly, either or both types of equitable relief may be necessary to achieve complete restoration of the prevailing employee’s economic status quo and to assure ‘the most complete relief possible.’”

Eshelman’s attorneys submitted an affidavit of an economic expert who computed the amount needed to compensate Eshelman for the higher tax bracket.  The Court accepted this affidavit as the basis of the award.

This decision highlights the need for Congress to pass the Civil Rights Tax Relief Act (CRTRA). This proposal would change the tax laws so that victims of discrimination would be taxed at the rate that they would have had if they were paid their wages on time, instead of in a lump sum.  CRTRA would also give compensatory damage awards the same tax treatment that personal injury awards get. Now that the courts are making employers pay for the adverse tax consequences, maybe the employers will join with civil rights attorneys in calling on Congress to pass CRTRA.