Do You Pay Taxes on Injury Settlements

Published on: 08/10/23 — In 

Usually, injury lawsuit settlement awards require taxes to be paid. The IRS considers money received from a structured or lump sum settlement as taxable income. This includes money for pain and suffering, medical expenses, lost wages, and punitive damages. But, not all injury settlements are taxable.

For help with a claim contact Ktenas Injury at (312) 300-2515 to schedule a free consultation with an experienced Chicago personal injury lawyer.

Is a Personal Injury Settlement Tax-Exempt?

Personal injury lawsuit settlements are generally tax-exempt. However, other factors like insurance payments, attorney fees, emotional injury medical expenses, and lost wages can complicate matters. To maximize your net payout, it's important to be aware of your tax liability.

Chicago Personal Injury Attorney Chris Ktenas

Personal injury attorneys experienced in personal injury claims may guide you in collecting evidence to counterbalance potential taxable income. This can help reduce the overall income tax owed from your lump sum award or settlement.

Is There a Federal Tax on Personal Injury Settlements?

Personal injury settlements can bring a welcomed financial relief when you’ve been injured, but there are some cases in which the IRS taxes portions of these settlements. Deducted medical cost expenses paid for over more than one year and documented as itemized deductions on previous years’ taxes must be pro-rated according to IRS regulations.

Furthermore, non-economic types of damages such as mental anguish and/or emotional distress due to physical injury are typically not taxable, but their taxability depends on the reason behind them; for example, if won for witnessing a car accident then the IRS may have to apply taxes.

Lastly, if money is awarded for loss of regular income due to the injury, then it becomes subject to paying Medicare and Social Security taxes that would normally apply if earned through an actual job.

It’s important to be aware of these regulations because it helps you understand when taxes are owed and how much will be due when filing your yearly income tax return.

Ultimately, being familiar with the federal tax code helps you organize your finances better so that no unnecessary red flags pop up when declaring your settlement money income taxes at tax time.

Instances in Which Personal Injury Settlements Are Subject to Taxation

When it comes to personal injury accident settlements, most of the time the settlement is not taxed due to its relation to physical injuries. A physical injury can range from direct harm such as broken bones, internal damage, and post-surgical follow-ups, to indirect consequences of such trauma, such as infection. As long as the settlement relates only to a “physical” injury or its associated effects such as non-economic damages, then the settlement may be tax-exempt.

In certain cases, personal injury settlements may be subject to taxation. If the injury is solely emotional or psychological without any physical component, the IRS will tax any settlement funds received.

tax forms on a desk

Furthermore, if an individual’s physical and emotional trauma are linked but not directly tied together with a corresponding physical injury or illness then they too may owe federal taxes on that portion of the award.

It is essential to understand all laws involved with taxation for someone who has received a personal injury settlement to properly manage their finances accordingly.

Punitive Damages and Taxation

Punitive damages are a form of legal recourse to punish and deter a defendant from any similar future actions. Especially in personal injury cases, these damages get awarded as an additional form of payment on top of the compensatory damages already granted. For those cases that qualify, punitive damages can be an effective deterrent against wrongdoing, but they do come with certain tax implications as well.

According to the Internal Revenue Service's guidelines on injury settlement tax, all compensation for injury awards must be reported as other income when it comes time for taxation. This means that the recipient will end up paying taxes on their award, which could greatly reduce the amount received if not accounted for.

Fortunately, this does not mean that any other portion of the settlement gets taxed; only the punitive damages will be affected by taxation as per IRS rules.

Legal fees for personal injury cases cannot be deducted from a settlement according to the IRS's laws. You will still be taxed on the full amount of your settlement even if you paid a significant amount in legal costs. For example, if you received a $50,000 settlement but paid $20,000 in legal fees, you will still be taxed on the full $50,000. It's important to keep this in mind when dealing with personal injury settlement taxes.

Learn More: How Much Does a Personal Injury Lawyer Cost?

Of course, taxation isn’t a one-size fits all subject matter and things can change depending on state laws and certain extra provisions added at times. That is why everyone must seek advice when attempting to understand taxes about personal injury settlements as opposed to relying entirely on their understanding of the matter through online mediums.

Consulting an experienced accountant or tax professional would be recommended since they can provide quality guidance regarding any potential deductions about compensation for property damage that could apply to your specific situation.

Maximize Your Settlement With Our Firm

When contemplating a personal injury lawsuit against an insurance company, it is crucial to comprehend the federal taxes ramifications of a settlement. Some may not be aware that a portion of their settlement may be subject to taxation, resulting in a significant decrease in the punitive damage awards received. It is advised to seek assistance from a knowledgeable personal injury attorney, such as Ktenas Injury Attorneys, who can provide insight into the tax issues and implications of the settlement.

Our personal injury lawyers can offer personalized legal advice and are well-informed about settlement tax implications, and make an effort to maximize their clients' compensation in settlement agreements. They offer a complimentary personal injury laws consultation to address individual cases and provide reasonable compensation for any damages.

Contact Ktenas Injury Attorneys at (312) 300-2515 for legal guidance and tax advice during these challenging circumstances.