It’s common to wonder whether certain forms of income we receive are considered taxable, and one of the more nuanced areas here is found when one wins a settlement in a personal injury case. There are elements of personal injury settlements that are typically or always considered tax-exempt, but also several others where it’s likely you’ll have to pay taxes – and knowing which is which is important after you’ve won a settlement.
At the offices of William Rawlings & Associates, our wide selection of personal injury attorney services ranges from car accidents and wrongful death cases to dental malpractice, dog bite cases and many others. Here’s a look into which elements of a personal injury settlement are typically taxable compared to those that aren’t, plus which variables may impact this conversation in your case.
Because many personal injury cases take time to settle, plaintiffs may have to pay out of pocket for certain medical procedures or treatments related to their injuries before they receive their final settlement. According to the IRS, any payments made for these medical services are not considered taxable income because they are seen as reimbursement for funds that have already been spent.
However, if you claimed those expenses in a prior year’s taxes, you will likely be required to consider those write-offs as income the next year once you receive your personal injury settlement.
Worker’s Compensation or Survivor Settlements
A couple areas where settlements are almost never taxable are worker’s compensation and survivor benefit cases. If you have to take time off work or are unable to return to your job because of an injury or the death of a loved one, any settlements related to those absences should not be considered taxable.
This also includes awards for loss of consortium, which are common in wrongful death lawsuits where the victim’s surviving spouse wasn’t able to have the same type of relationship with their partner because of their death.
Pain and Suffering Damages
In many personal injury cases, additional sums may be awarded for what’s called “pain and suffering.” This is a non-economic sum paid to the plaintiff in addition to any other damages that may have been incurred, and it’s meant to act as compensation for the physical or emotional pain and anguish caused by the injuries.
This is one of the more nuanced areas when it comes to taxability. To wit: If “emotional distress” can be proven and linked to the injury in question, the money awarded here typically will not be taxable. However, if it’s unclear that distress is actually linked to the injury, then this part of the settlement may indeed be taxable.
The realm of pain and suffering damages is one that really showcases the value of a strong attorney, as they will be able to make the argument to the court that these damages are, in fact, linked to the injury and not just a general sense of emotional distress.
In nearly all personal injury cases, lost wages are considered in the same way as typical wages. That is, they are almost always taxable in the same way that your regular paychecks would be. This includes lost wages that were part of a worker’s compensation case, as those are typically considered taxable income as well.
The one exception here is if you can prove that the injuries you sustained have caused you to suffer a permanent disability that will prevent you from ever working again. If this is the case, then any future lost wages as a result of the disability may not be considered taxable.
Another somewhat curious area is that of attorney’s fees. In cases where you pay these fees out of pocket to your attorney as the case goes on, these fees are almost always viewed by the IRS as tax-deductible.
However, on the other hand, if your lawyer fees are included in the award you receive in your settlement, and you have already claimed them as expenses, they will be taxed as standard income for that year.
Generally, any money you receive as part of a personal injury settlement is seen as “compensatory” in nature and not taxable. This includes all the damages we’ve discussed so far.
However, sometimes – especially in cases of gross negligence or recklessness – a court may also award “punitive” damages. These are meant to punish the negligent party in addition to compensating the victim, and they are almost always considered taxable.
This is because punitive damages are not seen as simply reimbursing the victim for their losses, but rather as a way to penalize the at-fault party beyond what’s necessary to make the victim whole again.
There are also occasionally certain other kinds of damages out there, such as damages for breach of contract by an insurance company, that are not directly related to an injury. In cases like this, it really depends on the specifics of the damages and how they were incurred. If it can be proven that the damages are a direct result of the injuries sustained, then they may not be taxable. However, if there is no clear link between the injuries and the damages, they will likely be considered taxable.
The best way to ensure that you understand the taxability of your personal injury settlement is to speak with an experienced attorney who can help you navigate the often-complex world of tax law. They will be able to help you understand how your particular situation may be affected and what, if anything, you can do to minimize your tax burden.
For more on this, or to learn about any of our personal injury attorney services, speak to our staff at the offices of William Rawlings & Associates today.