Do you pay taxes on personal injury settlements?
There are various ways a person could suffer from personal injuries. You can incur bodily injuries due to a car accident, workplace accidents, slip and fall accidents, product liability, medical malpractice, and so many others.
According to laws, no person has a right to injure another one, and whoever negligently causes harm to others has to compensate them for the damages incurred. The personal injury victim or through his attorney will negotiate with the at-fault party for a monetary settlement.
For instance, you the injured, and the at-fault party could agree on for example $200,000 as a settlement depending on the severity of your injuries and other property losses. If you just received your settlement offer, the next question could be, Do you pay taxes on personal injury settlements?
The quickest answer is that it depends on the components of personal injury awarded to you as monetary compensation for the damages you incurred. Some components of personal injury settlement are taxed while others are not.
To explore more about components that are taxable and others that are not, go through the contents of this article below and look at sections that are of interest to you. Alright, here we go!
Page Contents
Taxation of damages and other settlement payments
If you are unlawfully or negligently injured, there are numerous damages you could be entitled to as your compensation. According to personal injury laws, the injured person is entitled to the following damages of which some are taxable while others are not.
- Medical expenses and other related costs.
- Pain and suffering
- Emotional distress
- Punitive damages
- Property damages
- Lost income and other benefits
- Lost wages etc.
Of course, the above list is not exhaustive. There are other damages like loss of consortium, loss of companionship, loss of guidance, mental anguish, etc of which some could be awarded to the family of the person injured or deceased due to bodily injury.
Some of these damages are taxable by the internal revenue service (IRS) while others are not. For instance, assume a plaintiff received $200,000 as his personal settlement as noted below.
Medical expenses and other related costs = $50,000
Pain and suffering = $60,000
Emotional distress = $20,000
Punitive damages = $20,000
Property damages = $10,000
Lost income and other benefits = $20,000
Lost wages =$20,000
Do you have to pay taxes on a settlement?
You will need to declare the above settlement and pay taxes on some of the components of your settlement. I explain which parts of your personal injury settlement that are taxable later in the sections that follow.
What personal injury damages are taxable?
Is pain and suffering taxable?
Damages paid to compensate for pain and suffering are not taxable. In the above scenario, the personal injury victim will walk away with the whole $60,000 awarded to him as part of his settlement.
Is emotional distress settlement taxable?
Emotional distress settlement is sometimes taxed or not depending on certain personal injury circumstances. Emotional distress damages are not taxed if it is directly related to your personal injuries.
On the other hand, emotional distress damages are taxed if it has nothing to do with your injuries. For instance, a parent who claims on behalf of his child will have the emotional distress settlement taxed.
Is property damage settlement taxable?
Property damage settlement is not taxable because the money awarded is intended to restore or compensate your damaged property. You won’t make any profit from your property damage settlement and therefore no taxes are paid.
Is Punitive damages settlement taxable?
If the jury or judge proves that you were intentionally injured or if the at-fault party exhibited a high degree of recklessness or negligence, you could be awarded punitive damages as a way of punishing the at-fault party.
According to revenue laws, punitive damages are taxable. This simply means that, according to the example given above, punitive damages ie $20,000 awarded will be taxed by IRS.
Is lost income settlement taxable?
We earn income from our businesses or other money-making ventures. Everybody is supposed to pay taxes on any income/profits earned.
If for instance, you were awarded $20,000 because the car accident you had, stopped you from operating your business, IRS or any other revenue authority will ask you to pay taxes. So, lost income personal injury settlement is taxable.
Is lost wages settlement taxable?
You have been working with a certain organization but due to the personal injuries you incurred, you missed a couple of monthly payments.
In the above example where $20,000 was awarded as a lost wages settlement, the plaintiff or claimant will pay taxes on $20,000. This is because your wages would still be taxed had you not sustained the injuries.
Do you have to pay taxes on a medical lawsuit settlement?
Medical expenses damages are paid to reimburse or meet your medical costs like hospitalizations, medical investigations, doctor visits, medications, surgery, and others.
Since medical settlements are meant to compensate for your losses and expenditures, they are not taxable. For instance, using the above example, the injury victim will walk home with his whole $50,000 as his medical damages.
How much taxes do you pay on lawsuit settlements?
How much you pay, and what components of your settlement that are taxable depends on where you come from. Tax laws are different from state to state so you will need to consult a legal officer or an accountant.
How to avoid paying taxes on settlement money?
Avoiding or refusing to pay taxes on the personal settlement will cause you serious problems. I strongly suggest you desist from it. However, there are a few ways you could reduce the amount of money paid as taxes, for instance,
1. If receives a large settlement, make sure your attorney arranges on your behalf to receive a structured settlement. For instance, a $200,000 personal injury settlement could be paid over 10 years.
Receiving such small portions gives you a chance of paying small taxes as compared to if you received the settlement as one big single payout.
2. If you settled your personal injury case with the insurance company, sometimes the settlement will not be broken down like the way in the example I used in this article.
Your insurance will pay a lump sum without indicating different payments for each damage as I showed in the example above. For instance, failure to break $200,000 down means IRS may want to tax it wholesomely, hence higher taxes.
Let the insurance company declare the amounts being awarded for each damage otherwise, you will end up paying large taxes. For example, using our example above. Instead of paying tax on $200,000, only $60,000 will be subjected to tax making it cheaper.
Conclusion.
Do you pay taxes on personal injury settlements? the answer is yes, but not all components of personal injury settlement are taxable. medical expenses, pain, suffering, etc are not taxed, whereas lost income, wages, and punitive damages are taxable.
