For attorneys and settlement planners who actually know how a 468B fund is supposed to work
Treasury Regulations § 1.468B-1
The Treasury Regulations under § 1.468B-1 grant settling parties considerable latitude in structuring a qualified settlement fund. A QSF can be a state-law trust, and, in certain circumstances, if created by the defendant, it can be a segregated escrow or a bank account. The QSF Regulations are deliberately structure-agnostic.
But that latitude has been mistaken for endorsement of any contrived arrangement.
Some plaintiffs’ firms have begun to treat the absence of a categorical structural requirement as a license to run their own QSFs, with the firm itself or a single attorney within the firm controlling distributions, claim allocation, and the timing of every payment, with no independent fiduciary reviewing or having the power to exercise fiduciary powers under a properly granted license. The governmental authority claims it has “continuing jurisdiction” but does not view, approve, audit, or supervise any of the QSFs, their transactions, or the administrator’s actions. Functionally, the administrator is the lawyer, or a nominal administrator who follows the lawyer’s instructions. The QSF is, in everything but name, a mere bank account run by the plaintiffs’ counsel.
Call it what it is: a Counsel-Managed QSF
And then ask the harder question. Does it survive five minutes of Banks analysis?
The honest answer, as the law stands today, is that it likely would not.
What the QSF Regulations Actually Require
Under Treas. Reg. § 1.468B-1(c), a fund qualifies as a QSF only if it satisfies three requirements:
- It must be established pursuant to an order of, or approved by, a governmental authority, and remain subject to that authority’s continuing jurisdiction.
- It must exist to resolve or satisfy claims arising from a tort, breach of contract, violation of law, or one of the other enumerated bases.
- It must be a trust under applicable state law, or its assets must be otherwise segregated from the assets of the transferor and related persons.
The QSF is taxed as a separate entity on its modified gross income under Treas. Reg. § 1.468B-2(a). The transferor’s payment into the QSF is generally deductible in the year of contribution (Treas. Reg. § 1.468B-3(c)). The claimants are not taxed until distribution, provided the QSF is operated as a genuine intermediary holding the funds for their eventual benefit, not as their alter ego nor under the control of the plaintiff (who is their agent).
That last clause is doing all the work.
The QSF is supposed to function like a trust, even when it is not technically organized as one. The administrator is supposed to act like a trustee, holding the assets impartially, exercising independent judgment, and making distributions in accordance with the governing documents and the directives of the supervising governmental authorities. Compare Frank Lyon Co. v. United States, 435 U.S. 561, 572-73 (1978) (formal title shifts the incidence of taxation only where the transferor has parted with meaningful control over the property).
When the administrator is not impartial, when the administrator is the agent of the claimants, and when no one with independent fiduciary discretion stands between the claimants and the cash, the QSF is functioning as a conduit. The Code does not bless conduits.
🕳️The Trustee Vacuum: Why a Law Firm Cannot Hold the Bag
Set aside, for a moment, the federal tax analysis. Start with state law.
In every state, a business entity that seeks to act as a corporate fiduciary or to exercise corporate trust powers must hold a trust company charter or an equivalent fiduciary license. The mechanism varies. In some states, the licensing authority is the banking commissioner; in others, it is the state corporation commission or a department of financial institutions. The common theme is that, where a state regulates “corporate trustees” or “trust companies,” an entity that wishes to serve as trustee of an express trust (or to advertise or hold itself out as exercising corporate fiduciary powers) may be required to be chartered or licensed to do so under that state’s statutes and regulations.
A law firm, whether organized as an LLC, PC, PLLC, LLP, general partnership, or any other entity, is typically not chartered as a trust company (this writer is unaware of any such incidence of a law firm being licensed as a trust company. Likewise, a bank, whether a state bank or a national bank, may not act in a fiduciary capacity unless it has obtained fiduciary (trust) powers under applicable banking law. Whether a particular firm or bank may lawfully serve as trustee of an express trust is a state-law and charter/authorization question and should be confirmed for the governing jurisdiction and the specific entity.
That should be the end of the conversation in any QSF that is structured as a state-law trust. It is not.
What happens in practice is that the QSF gets organized so that the individual attorney controls the QSF, or a nominal third-party administrator is engaged as an escrow agent, but the operating documents bind that administrator to follow the directions of plaintiffs’ counsel on every matter that touches the assets – from the timing of distributions, the resolution of liens, and the claim allocation among co-claimants.
Either way, the practical effect is the same. The law firm contacts a bank for an escrow account, and the lawyer runs the QSF.
And once the lawyer runs the fund, every other piece of the federal tax analysis collapses around the Banks agency principle.
🎭Banks and the Agency Problem
Here is what the Supreme Court actually said in Commissioner v. Banks, 543 U.S. 426, 436 (2005):
The relationship between client and attorney, regardless of the variations in particular compensation agreements or the amount of skill and effort the attorney contributes, is a quintessential principal-agent relationship.
And more pointedly, on the same page:
🧑⚖️The attorney is an agent who is duty bound to act only in the interests of the principal, and so it is appropriate to treat the full amount of the recovery as income to the principal.
Banks was decided in the contingency-fee context, but the agency holding is not contingency-fee-specific. The attorney is the client’s agent because the attorney owes the client undivided loyalty and is obligated to act solely on the client’s behalf. That obligation is structural. It does not turn off because the attorney has been handed a different hat to wear in connection with the same matter.
This is the crux of the Counsel-Managed QSF problem.
A QSF requires its administrator to act independently, holding the fund’s assets impartially for the benefit of all claimants and acting under the supervising authority’s continuing jurisdiction. The attorney-as-administrator is, simultaneously, agent for one or more of the claimants and partisan advocate for those claimants’ positions in any contest over allocation, lien resolution, or distribution timing. The two roles are not merely in tension. They are categorically incompatible.
A Wood LLP analysis (Feb. 18, 2025) puts it neatly: the attorney-administrator is “wearing two hats simultaneously,” and the agency duty owed to the client makes it functionally impossible to also act with the impartiality a QSF administrator owes to the fund.
The interposition of a nominal independent administrator does not solve the problem. It often makes the problem worse. When a passive third-party administrator is bound by the QSF’s governing documents to follow plaintiffs’ counsel’s instructions, the agency conflict is actually affirmed, not eliminated. The lawyer still runs the fund. The lawyer just runs it through a willing “rubber stamp” intermediary who has no independent discretion to push back. From the IRS’s perspective, that arrangement is Hart‘s pliable trustee with a bigger letterhead.
🪢Constructive Receipt: The Pliable Trustee Test
Treasury Regulation § 1.451-2(a) sets out the constructive receipt rule:
Income although not actually reduced to a taxpayer’s possession is constructively received by him in the taxable year during which it is credited to his account, set apart for him, or otherwise made available so that he may draw upon it at any time, or so that he could have drawn upon it during the taxable year if notice of intention to withdraw had been given. However, income is not constructively received if the taxpayer’s control of its receipt is subject to substantial limitations or restrictions.
The doctrine has both a substantive arm (when must the taxpayer recognize income) and an anti-abuse arm (the taxpayer cannot turn his back on what he has the unfettered right to demand). The relevant case law for the Counsel-Managed QSF is the second arm.
Hart v. Commissioner, T.C. Memo. 1983-364, gives the canonical formulation. Constructive receipt requires “unfettered control” over the amount, directly or indirectly. Where a trustee holds funds and would remit them on the taxpayer’s demand, or where the trustee is “a pliable trustee that would accede without question to any request for funds made by” the taxpayer, the constructive-receipt doctrine applies. Where, by contrast, the trustee retains genuine discretion and the taxpayer must satisfy real conditions to obtain the funds, the doctrine does not apply.
Wolder v. Commissioner, 493 F.2d 608, 613 (2d Cir. 1974), reinforces the unfettered-command test from a different angle. An attorney-legatee did not constructively receive a bequest in 1965 because his coexecutor refused delivery and the residuary legatees objected. The Second Circuit held that “until such time as the consent of the coexecutor was obtained to the transfer, the individual taxpayer was subject to substantial limitations or restrictions.” The taxpayer’s command of the assets must be real, not nominal.
Hamilton National Bank v. Commissioner, 29 B.T.A. 63 (1933), is the original turn-his-back case. A taxpayer cannot defer income by refusing to accept a payment that has been tendered and is at his disposal. Hamilton National Bank and its progeny police taxpayers who would otherwise time their income by simply declining to take it.
Utley v. Commissioner, 906 F.2d 1033 (5th Cir. 1990), extends the same principle to controlled entities. Where the taxpayer owns and controls the obligor, he cannot avoid constructive receipt by causing the obligor to default. The taxpayer’s de facto power over the source of payment is treated as the equivalent of an unfettered right to demand.
Sidebar. When a QSF is based on an escrow account and the escrow agent has no fiduciary powers and holds no fiduciary licenses, the QSF is, by default, Counsel-Managed.
Now apply the framework to the Counsel-Managed QSF.
The plaintiff’s claim is liquidated and on deposit in the QSF. The plaintiff’s attorney, under Banks, is the plaintiff’s agent. The attorney controls the QSF, either as administrator or by directing the nominal administrator. The fund’s governing documents do not require the supervising court’s approval for distributions. There is no independent fiduciary standing between the plaintiff and the cash.
What, exactly, is the “substantial limitation or restriction” that prevents the plaintiff from demanding immediate payment? The attorney’s discretion? The attorney is the plaintiff’s agent. The nominal administrator’s discretion? The administrator is bound to follow the attorney’s instructions.
The fund is, in Hart‘s language, the pliable trustee. The plaintiff’s right to demand payment runs through the plaintiff’s own agent. That is not a substantial limitation. It is a pretend formality.
The IRS’s strongest position, on these facts, is that the claimant constructively received the QSF deposit on or near the date of funding. The structured-settlement consequences of that conclusion are not subtle. Section 130 qualified-assignment treatment is unavailable for any periodic-payment annuity funded out of a QSF whose claimant has already constructively received the underlying liquidated proceeds. The attempted structure collapses to a taxable lump sum, with the assignment company holding paper that no longer accomplishes what the parties intended.
Economic Benefit: The Irrevocable Set-Aside
The economic benefit doctrine extends beyond constructive receipt. Constructive receipt requires the taxpayer to have something he could draw on. Economic benefit reaches situations where the taxpayer could not yet draw on the asset, but the asset has been irrevocably set aside for his benefit and is no longer at the payor’s risk.
The seminal authority is Sproull v. Commissioner, 16 T.C. 244 (1951), aff’d per curiam, 194 F.2d 541 (6th Cir. 1952). An employer placed $10,500 in trust for the future benefit of its employee. The funds were to be paid out in installments two and three years later. The Tax Court held the entire $10,500 was taxable in the year of the transfer because:
- the employer had irrevocably parted with the funds,
- the employee had an absolute right to receive the corpus on the prescribed schedule,
- the funds were beyond the reach of the employer’s general creditors, and
- there were no material contingencies that could defeat the employee’s right to receive.
Compare Minor v. United States, 772 F.2d 1472 (9th Cir. 1985). Physicians’ deferred compensation was held in a trust whose sole beneficiary was the medical practice, not the physicians. The physicians had no rights greater than those of general unsecured creditors of the practice. Their interests were forfeitable. The Ninth Circuit held that the economic benefit doctrine did not apply because, as the court put it, “the employee’s interest has been [forfeitable]” and the trust assets remained at the practice’s risk.
Compare also Drysdale v. Commissioner, 277 F.2d 413 (6th Cir. 1960), where the Sixth Circuit found no economic benefit because the taxpayer’s right to the trust funds was conditional on his reaching age sixty-five, retiring from full-time activity, or his death. Substantial conditions defeat the doctrine. Pure timing rules do not.
Now run the Counsel-Managed QSF through the Sproull framework.
The defendant has paid the claim into the QSF. The defendant is no longer at risk; the funds are beyond the reach of the defendant’s creditors. The QSF holds the funds for the benefit of the named claimants. The amount is liquidated. The administrator’s discretion to withhold distributions is, in substance, the discretion of the claimants’ own agent.
What, exactly, are the “material contingencies” that protect the QSF from economic-benefit treatment? Lien resolution? Liens are typically a few percent of the recovery and do not put the entirety of the corpus at risk. Allocation among co-claimants? In a single-claimant QSF, that contingency is absent on its face. Structured settlement decisions? Those are elective. They are not contingencies that put the claimant’s right to the corpus at genuine risk.
A Counsel-Managed QSF that holds liquidated proceeds for a single claimant, with no court-approved distribution review, no independent administrator, and no genuine contingency protecting the claimant’s right to demand, looks like Sproull with a different caption. The economic benefit doctrine should reach it.
The Tax Court’s analysis in Pulsifer v. Commissioner, 64 T.C. 245 (1975), confirms the principle in the QSF-adjacent context: where funds are set aside in court for a known beneficiary, beyond the reach of the original payor’s creditors, and the beneficiary’s right to the funds is absolute, the economic benefit doctrine triggers in the year of the set-aside. A QSF held for a single claimant, with liquidated proceeds and no real contingencies, is the same fact pattern in different clothing.
What Happens If the IRS wins
The downstream consequences of a successful IRS challenge to a Counsel-Managed QSF are not minor adjustments. They cascade.
Acceleration of income. The claimant recognizes the entire QSF deposit as ordinary income (or capital, depending on the underlying claim) in the year of constructive receipt or economic benefit. Interest and underpayment penalties run from the original due date.
Loss of § 130 treatment. Periodic-payment annuities funded out of the QSF were intended to provide tax-free benefits under § 104(a)(2) and to qualify the assignment under § 130. Once the claimant has constructively received the underlying lump sum, § 130 has nothing to assign. The structured settlement collapses into a non-qualified deferred compensation arrangement, with all of the income-recognition and § 409A consequences that follow.
Carrier and exposure. The annuity issuer that took the assignment is holding paper that does not do what it was designed to do. The carrier’s expected tax treatment is upended, and the carrier may face arguments from the claimant that the structure was misrepresented. Claims professionals who built a settlement architecture on a Counsel-Managed QSF have written checks on a structure the IRS may not honor.
Settlement planner exposure. The settlement planner who recommended the Counsel-Managed QSF, prepared the structuring projection, or coordinated the funding has built professional advice on a foundation the planner should have known would not hold under the applicable doctrines. Civil exposure follows.
Counsel’s own exposure. The plaintiffs’ attorney who served as administrator, or who directed a nominal administrator, has acted in two incompatible capacities at the same time. Beyond the federal tax consequences to the client, the attorney has created professional-responsibility issues under Model Rule 1.7 (concurrent conflicts) that no engagement letter, however carefully drafted, eliminates. The agency duty Banks describes is not waivable by stipulation.
The settlement community has been told for years that QSFs are flexible. They are, but that flexibility is not unlimited. The limits are not in the QSF Regulations; they are in the doctrines that apply to every taxpayer-controlled set-aside, and they are in the agency principles the Supreme Court reaffirmed in Banks.
Practitioner Takeaways
For attorneys and settlement planners who actually have a QSF on the table, the working rules are:
- 🧑⚖️The administrator must be independent. Independent in fact, not just in title. An administrator who follows plaintiffs’ counsel’s instructions and lacks the fiduciary authority to reject any requests is not independent. Use a chartered institutional fiduciary or, where state law permits, an individual fiduciary who is not the claimants’ agent.
- 🚫A law firm cannot serve as trustee of a state-law trust QSF. State trust-company licensing requirements apply, and bank unless they have a trust charter do not satisfy them. Where the QSF is structured as a trust, the trustee must be either an individual fiduciary or a chartered trust company.
- 🏦An individual attorney serving as trustee creates the Banks agency conflict. The attorney’s fiduciary duty to the client is structural and continuous. ❌It does not suspend during QSF administration. The conflict is categorical, not waivable.
- Court approval of distributions is a feature, not a burden. The supervising authority’s continuing jurisdiction is a regulatory requirement under § 1.468B-1(c)(1). Building genuine court oversight of distribution decisions into the QSF’s operating documents creates the substantial limitation that defeats both constructive receipt and economic benefit.
- Single-claimant QSFs require special discipline. The economic benefit risk is highest where the corpus is liquidated, the recipient is identified, and the contingencies are illusory. Real allocation disputes, real lien negotiations, and real structured-settlement elections take time and create the conditions that protect the QSF’s qualification. Manufactured contingencies do not.
- Document the contingencies and the discretion. The QSF’s governing documents should describe the administrator’s independent discretion, the standards for distribution approval, the supervising authority’s role, and the genuine contingencies that condition the claimants’ right to receive. Paper that recites independence while operating documents direct otherwise will not survive scrutiny.
- If you would not let opposing counsel hold the settlement money in their IOLTA account pending allocation, do not let plaintiffs’ counsel hold it in a Counsel-Managed QSF. The constructive-receipt analysis on an attorney’s IOLTA is, in substance, the same analysis. The 468B label does not change it.
The Bottom Line
A QSF that is under the plaintiffs’ counsel, or that is a nominal bank acting as the administrator, is bound to follow plaintiffs’ counsel’s instructions and is a Counsel-Managed QSF. It is structurally vulnerable on two independent doctrines.
State corporate-trustee licensing requirements often restrict which entities may serve as trustees of an express trust, and a law firm entity will frequently not qualify absent a relevant fiduciary charter or license. An individual attorney may be appointable in a personal capacity under many state trust codes, but doing so can still trigger the Banks agency concern: the attorney remains the client’s agent and partisan advocate and therefore may be unable, as a practical and fiduciary matter, to serve as the independent, impartial fiduciary the QSF structure assumes.
Once the agency conflict is established, the constructive receipt doctrine (under Hart v. Commissioner and its pliable-trustee progeny) and the economic benefit doctrine (under Sproull and the irrevocable-set-aside line) reach the deposit in the year of funding. Treas. Reg. § 1.6045-5(f), Example 9 does not save the structure; it addresses Form 1099 reporting, not QSF qualification, and it describes a court-supervised class-action context that single-claimant Counsel-Managed QSFs lack.
⚠️The downstream consequences include income acceleration, loss of § 130 qualified-assignment treatment for any periodic-payment annuity funded out of the structure, civil exposure for carriers and settlement planners, and professional-responsibility exposure for counsel.
The QSF Regulations are flexible. They are not a license for plaintiffs’ counsel to run their clients’ settlement money through plaintiff counsel-controlled accounts. The doctrines that govern every other taxpayer-controlled set-aside still apply, and Banks still controls the agency analysis.
Authorities Cited
- Commissioner v. Banks, 543 U.S. 426 (2005)
- Frank Lyon Co. v. United States, 435 U.S. 561 (1978)
- Drysdale v. Commissioner, 277 F.2d 413 (6th Cir. 1960)
- Wolder v. Commissioner, 493 F.2d 608 (2d Cir. 1974)
- Sproull v. Commissioner, 16 T.C. 244 (1951), aff’d per curiam, 194 F.2d 541 (6th Cir. 1952)
- Minor v. United States, 772 F.2d 1472 (9th Cir. 1985)
- Hamilton National Bank v. Commissioner, 29 B.T.A. 63 (1933)
- Utley v. Commissioner, 906 F.2d 1033 (5th Cir. 1990)
- Hart v. Commissioner, T.C. Memo. 1983-364
- Pulsifer v. Commissioner, 64 T.C. 245 (1975)
- I.R.C. §§ 104(a)(2), 130, 451, 468B
Treas. Reg. §§ 1.451-1(a), 1.451-2(a), 1.468B-1, 1.468B-2(a), 1.468B
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