What does the IRS think of Stomy Daniesl hush money? How should Trump's attorney classify the payment?

Some people spend their whole lives grasping for the white-hot spotlight of fame. Others avoid it like the plague. Still others work to stand out in their field, only to make headlines for entirely different reasons. Porn “star” Stormy Daniels clearly falls into that third group. The 38-year-old performer excels in her craft, with spots in the Night Moves, Adult Video News, and X-Rated Critics Organization Halls of Fame. But despite all that hard work, she’ll go down in history for taking $130,000 in hush money to cover up an affair with the President.

(Of course, “Stormy” isn’t the name her parents gave her. Her real name is Stephanie Clifford, which makes her sound more like a debutante than a girl who started stripping at age 17 – “introducing Stephanie Clifford, of the Main Line Cliffords . . . “)

Politicians and pundits are feverishly debating exactly how and why that money wound up in Stormy’s account. Did the President or one of his associates secretly foot the bill? Is it an illegal campaign contribution or campaign finance violation? Will it find its way into Special Counsel Robert Mueller’s investigation? But really, who cares about that stuff? We want to know what the IRS thinks!

What does the IRS think?

The Tax Code defines gross income as “all income from whatever source derived,” and there’s no section excluding payoffs from presidential candidates. So it’s pretty clear that Stormy’s windfall is taxable. (Minus legal fees, of course. “Hush Money for Porn Stars” isn’t a required law school class – for most schools, it’s a third-year elective. Still, only the best lawyers have that particular expertise under their belts.)
The real question is: how is that windfall taxed? Is it ordinary income? Or could it be capital gains? And what difference would that make?

Most tax professionals would probably include the income in Stormy’s business of being a porn star. If that’s the case, it’s taxed as ordinary income at marginal rates of up to 37%. It’s also subject to self-employment tax, unless Stormy has organized her business as an S corporation and paid herself a reasonable salary to cap that particular liability.

Treat the Property as a Capital Asset!

But there may be another way to skin this particular cat. The settlement agreement itself provides that Stormy is actually selling her rights to certain information and “property.” So why not treat the “property” as a capital asset? In that case, considering the story grows out of an affair that took place in 2006-07, it would be treated as long-term gain, and tax would be capped at 20%. The gain would also be subject to a 3.8% net investment income tax if her adjusted gross income tops $200,000.

Now, what about deducting the payment? If the President’s personal lawyer is telling the truth when he suggests that he paid out of his own pocket, then he can plausibly deduct it as an expense of his law practice. The attorney also claims he originally pulled the cash out of his personal home-equity line of credit, which means he can deduct the interest he pays, too.

Want a free book on the new tax law?

Here at Financial Gravity, we confess we have no experience whatsoever with tax planning for hush money. But we’ve helped business owners just like you save thousands on their taxes. We also just created the first book we are aware of on the implications of the new tax law. The New Tax Law book doesn’t just walk through you the new rules. We explain how to take advantage of the most powerful strategy for paying less tax. And that strategy is planning, proactive planning (not the reactive planning most people do now, which doesn’t work) and most important, strategic tax planning!

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