Hurt in a serious accident caused by another party’s negligence? You need financial compensation to pay bills and support yourself. You may want to know: Will my personal injury settlement be taxable? The answer depends on the specific structure of the settlement—while personal injury settlements are largely tax-exempt, there are some exceptions.
At Bernheim Kelley Battista, LLC, our Fort Lauderdale personal injury lawyers are skilled, experienced advocates for justice. We want to make sure that victims and families have the information they need to protect their best interests. Below you will find an in-depth overview of the key things you should know about personal injury settlements and taxation.
Table of Contents
- What is a Personal Injury Settlement?
- What Types of Lawsuit Settlements are Not Taxable?
- What Types of Lawsuit Settlements are Taxable?
- Tax-Exempt vs. Taxable Personal Injury Settlement Factors
- Are Personal Injury Settlements Taxable on the State Level (Florida)?
- Are Medical Expenses Taxable?
- Are Punitive Damages Taxable?
- Are Wrongful Death Damages Taxable?
- Is Compensation for Physical Injuries Taxable?
- Is Compensation for Emotional Distress Taxable?
- How Does the IRS Collect Settlement Taxes?
- How Much Does the IRS Tax a Settlement?
- How Do I Report a Personal Injury Settlement on My Tax Return?
- Why File a Personal Injury Claim
What is a Personal Injury Settlement?
A personal injury settlement is an agreement reached between an injured party and the party at fault, typically through their insurance company. A settlement effectively resolves a personal injury claim. Instead of proceeding to trial, both parties agree on a compensation amount to cover medical expenses, lost wages, pain and suffering, and any other damages.
What Types of Lawsuit Settlements are Not Taxable?
Are you in the process of suing for personal injury? If so, it is important to understand how any settlement (or judgment) will be taxed. As explained by the Internal Revenue Service (IRS), not all personal injury settlement funds are taxable. In fact, a significant amount of the financial compensation that you receive through a personal injury settlement will not be taxable. Here is an overview of the types of damages that are generally not taxable in personal injury settlements:
- Medical Bills (Physical Injury): The portion of the settlement that covers medical expenses is not taxable. Some examples of tax-exempt medical bills include those related to hospital stays, surgeries, doctor visits, physical therapy, and any other direct medical costs related to the physical injury. As long as these expenses stem directly from a physical injury or illness, they remain tax-exempt.
- Lost Wages (Physical Injury): When an injury prevents an individual from working and earning their usual wages, the compensation for those lost wages is non-taxable. Settlement funds that cover lost wages help to ensure that the victim can regain financial stability without the burden of taxes on the money meant to replace their regular income.
- Pain and Suffering (Physical Injury): Often, the most significant and lasting impact of an injury isn't just the medical bills or lost wages but the emotional and physical pain and suffering experienced. Compensation for pain and suffering related to a physical injury is also not taxable.
What Types of Lawsuit Settlements are Taxable?
Although a great deal of personal injury settlement funds are tax-exempt, there are some settlement funds that might potentially be subject to taxation at the federal level and the state level. Here is an overview of the types of damages that may be taxable as part of a personal injury settlement:
- Emotional Distress (No Physical Injury): If you receive compensation for emotional distress that did not originate from a physical injury or illness, this amount is generally taxable. For instance, if you sue your employer for emotional distress due to discrimination or harassment, but there is no associated physical injury, the awarded amount may be subject to tax by the IRS.
- Interest Received on Settlement Funds: The personal injury claims process can take time. Indeed, it is not uncommon for there to be a delay for injured victims to receive their settlement. In some cases, a settlement may include interest on the amount owed. This interest is considered income and is taxable—even in cases where no other underlying part of the personal injury settlement amount is taxed.
- Punitive Damages: Unlike compensatory damages, which aim to make the victim "whole" again by covering the costs of injuries and losses, punitive damages are intended to punish the wrongdoer for particularly egregious behavior. Because of their penal nature and not being directly tied to a personal injury's specific costs, punitive damages are typically taxable.
Tax-Exempt vs. Taxable Personal Injury Settlement Factors
The taxation of personal injury settlement can be a complex issue. Here are some of the primary factors that affect whether or not a settlement is taxable under federal law or Florida law:
- The Presence of a Physical Injury: Settlements that compensate for physical injuries or illnesses are generally not taxable. Payments received to cover medical expenses, pain, suffering, and even lost wages related to a physical injury are usually exempt from taxes. On the contrary, compensation for emotional distress without any accompanying physical harm may be taxable.
- The Exact Structure of the Settlement Agreement: The way a settlement is structured and worded can influence its tax implications. It is crucial for the settlement agreement to explicitly clarify the reasons for the damages awarded. By distinctly outlining whether the compensation is for physical injuries, emotional distress, or punitive measures, one can avoid unnecessary tax burdens. A Fort Lauderdale personal injury lawyer can help.
- Scope of Recovery vs. Actual Damages: Your actual damages versus the scope of your settlement can be an issue in a limited number of personal injury claims. When the recovery amount exceeds the actual damages, tax complications might arise. For example, if punitive damages are awarded in addition to compensatory damages, punitive damages are taxable.
Are Personal Injury Settlements Taxable on the State Level (Florida)?
It depends. Similar to federal rules for taxation, a personal injury settlement in Florida is generally not classified as taxable income. However, there are some exceptions. It is important to consult with an experienced Florida personal injury lawyer who understands the specific factors of your case.
Are Medical Expenses Taxable?
Medical expenses are key to any personal injury settlement. Indeed, medical expenses make up much of the basis when determining the average settlement for any type of accident claim. As noted previously, the financial compensation associated with medical expenses in a personal injury settlement is generally not classified as taxable income. You can seek full compensation for your medical costs.
To learn more, schedule a free consultation with us today.
Are Punitive Damages Taxable?
Yes. At both the federal and state levels, punitive damages are typically considered to be taxable income. Remember that while they are awarded to the victims in personal injury cases, their purpose is not to compensate that victim for any specific type of loss. Instead, the primary purpose of punitive damages is to punish the wrongdoer for particularly egregious or extremely negligent behavior. With that in mind, these damages are generally considered taxable income.
Are Wrongful Death Damages Taxable?
No—at least not for the most part. The compensation received specifically for physical injuries or the physical manifestation of illnesses is not taxable. Wrongful death claims are no exception. That being said, a wrongful death settlement that includes some form of punitive damages as part of the settlement agreement could be deemed partially taxable.
Is Compensation for Physical Injuries Taxable?
No. Financial compensation received specifically for physical injuries or the physical manifestation of illnesses is not taxable. The goal of such compensation is to make the injured party "whole" again, and as such, it is not treated as taxable income at the state level or federal level.
Is Compensation for Emotional Distress Taxable?
It is not uncommon for non-economic damages to be a big part of a personal injury claim. Following a serious accident, you may be wondering if you can sue for pain and suffering or if you can sue for emotional distress. Emotional distress compensation creates some of the most challenging and complex tax situations. Here is an overview of the general principle: Compensation for emotional distress in a personal injury settlement is generally not taxable as long as that emotional distress is linked directly to a physical injury. Without a physical injury, it is taxable.
How Does the IRS Collect Settlement Taxes?
Assuming that you incur any tax liability as part of your personal injury settlement—which, it is important to remember, most people do not—the IRS collects those through your annual income tax return. If you have received a settlement that has taxable components, you must report these funds on your tax return. The responsibility lies with the taxpayer to declare any taxable portions of the settlement. Once reported, any tax liability associated with the settlement is addressed and incorporated into your personal tax return.
How Much Does the IRS Tax a Settlement?
It depends on a wide range of different factors. Indeed, the amount the IRS taxes on a settlement depends on the nature of the settlement and its components. In many cases, especially those related to physical injuries, the settlement may not be taxable at all. However, other elements, like punitive damages or interest, can be taxed. The taxable portion of the settlement would typically be treated as regular income, and it would be taxed at your normal income tax rate. If you have any specific questions or concerns about your settlement and future tax issues, consult with your attorney.
How Do I Report a Personal Injury Settlement on My Tax Return?
Following an accident, you likely have questions about how your personal injury settlement will be paid out. The answer depends on a number of case-specific factors. Any tax issues should be proactively addressed—so that you are not left dealing with any unpleasant surprises in the future. Notably, even if your personal injury settlement does not have any taxable income included within it, you are still required to report the settlement amount to the IRS. Good record-keeping is a must. By documenting the settlement, you provide a clear record that the income was specifically from a non-taxable source. Doing so can be beneficial if the IRS ever questions your income sources or if there is an audit of your tax return at any point in the future. If you get a settlement for a defendant or insurance company for a personal injury claim in Florida, you may end up receiving a form called Form 1099-MISC from them in the future. It is a form that can be used to document income—including non-taxable income—for the purposes of IRS records.
Why File a Personal Injury Claim
The core purpose of a personal injury claim is to ensure that the victim gets justice and the financial compensation that they need to pay bills and support themselves and their loved ones. Sadly, defendants and insurers can make the process challenging. A lot of complex issues can arise during the personal injury claims process—from establishing liability to proving your damages to handling federal and state tax issues. Remember, you must file within the statute of limitations, so reach out for help as soon as you can. At BK Law, we are here to help you navigate your way through every step of the personal injury claims process. We will investigate your case, ensure you meet any deadlines for filing an injury lawsuit, and take action to help you secure the maximum financial compensation. Our Florida personal injury attorneys are devoted to providing personalized legal guidance and advice to victims and families. If you have any specific questions or concerns about the taxability of personal injury settlements, we are here to help. Contact us today to set up a free review of your case. From our law offices in Fort Lauderdale, Miami, Jacksonville, Starke, and Fort Myers, we fight for the rights and families of injured victims throughout Florida.
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