Are Personal Injury Settlements Taxable?

The answer is yes and no, depending on several issues. We’re a law firm. What answer did you expect?

No one likes paying taxes, but like death, they’re inevitable. To a certain extent, you can structure your settlement to minimize your tax exposure, but playing too many games may get the IRS’ attention, something you don’t need.

The Fleck Firm represents Kentuckians in personal injury cases. We don’t practice tax law, and we’re not accountants. We suggest you get professional help with your taxes, especially if you get a large settlement.

As you’ll see, the tax treatment of your settlement is impacted by actions and deductions after your accident but before receiving your settlement check. Get tax advice while you recover from your injuries to minimize mistakes and your taxes. You want to prevent, as much as possible, unpleasant tax surprises after you settle.

If you received a substantial settlement, you’re probably totally or partially disabled due to a severe injury. Your ability to work is likely limited or nonexistent, so the money needs to last a long time. If that’s the case, financial and tax planning are essential. If you settle a personal injury claim, you can’t go back for more.

The damages you’re claiming (the harm you suffered measured in dollars) probably have many parts. They could be back pay, emotional distress, and reimbursement for medical bills. When you settle these issues, the tax treatment can differ. IRS guidance on taxing settlement brings up several points.

Injuries or Sickness

When you received a settlement and didn’t take an itemized deduction for your accident-related medical expenses beforehand, the total amount is not taxed, so this money isn’t part of your income. But, if you made such deductions, you must include as income the amount you deducted to the extent it gave you a tax benefit. You can’t get the tax benefit of a deduction because the other party didn’t pay your medical bills, then when they’re paid “double-dip” by not including it as income.

Emotional Distress or Mental Anguish

The proceeds you get for your emotional distress or mental anguish from your injury are treated the same as if they were for physical injuries or sickness, so they aren’t taxed. But if you deducted costs of treating your distress and anguish, they must be treated as income after you get a settlement.

However, if you suffered distress and anguish just from the shock and trauma of the accident, not due to a physical injury, your settlement must be included as income. If that’s your situation, there can be deductions from that income for:

• Medical expenses you paid to treat your emotional distress not previously deducted from your taxes
• Previously deducted distress-related medical expenses that didn’t give you a tax benefit

Lost Wages or Profits

If you were an employee or owned a business, you probably lost income and profits due to your injuries and recovery. What you receive for lost wages is taxable and subject to Social Security and Medicare taxes. Reimbursement for lost profits is considered net earnings subject to income and self-employment taxes.

Punitive Damages

Punitive damages are rarely awarded at trial and won’t be part of a settlement. They punish wrongdoing and discourage the party, and others, from taking similar actions in the future. If your case goes to trial and you’re awarded these damages, they’re income and are taxable.

Interest

Interest on the amounts you seek over the time that your claim or case has been pending may be paid as part of a settlement or jury verdict. It’s generally taxable.

Your settlement, depending on your claims, the facts, and how you handled your taxes before getting paid, is generally not taxed. Given what you’ve been through, you deserve a break. For most people, taxes won’t add insult to injury.

Injured in an Accident? Talk to an Attorney You Can Trust

The Fleck Firm represents Kentucky residents injured in accidents. We can help you obtain fair compensation for what they suffered through negotiation, mediation, and litigation with insurance companies and those responsible for your injuries. Contact the Fleck Firm today if you’re injured in a car accident, a slip and fall, a boating accident, or some other type of accident. Insurance companies have lawyers. You should have one too.