Are Personal Injury Lawsuit Settlements Taxable?
If you’re considering a personal injury lawsuit to claim compensation after an accident, you may wonder: Are personal injury lawsuit settlements taxable? If so, would pursuing one even be worthwhile?
Many forms of personal injury damages are not taxable. A Wisconsin personal injury attorney can help you estimate the case value, including any taxes you might face.
When Personal Injury Settlements Are Not Taxable
Personal injury lawsuit settlements attempt to compensate you for the money lost as a result of the accident, such as:
- Lost wages
- Medical expenses
- Physical damages
None of these items are generally taxable. You don’t owe taxes when you pay medical bills, and compensatory damages typically account for post-tax income, not gross income. Because of this, you probably won’t owe taxes on compensatory damages.
The same goes for the majority of non-economic damages, such as:
- Emotional distress
- Pain and suffering
- Loss of quality of life
The IRS exempts many personal injury claim settlements from taxation. Because these settlements directly compensate you for losses, you shouldn’t owe taxes on them.
Damages That May Be Taxable
Still, when answering “Are personal injury lawsuit settlements taxable?” keep in mind that certain aspects of your settlement may be subject to taxation.
- Punitive damages: Punitive damages are typically taxable. These damages punish the defendant for especially egregious behavior. Because they are not compensatory and do not directly make up for losses, the IRS views them as income, requiring you to pay taxes on them. You’ll need to separate punitive and compensatory damages when reporting your settlement to the IRS.
- Gross income compensation: Should the court base your lost wages on gross income rather than net income, you may need to pay taxes on this compensation, as it is generally considered taxable.
- Compensation for non-physical injury: Damages relating to emotional distress or a mental health condition for a non-physical injury may count as taxable income.
- Interest earned on a settlement: If the defendant was required to pay interest on your settlement, this is considered “interest income” under IRS guidelines. You must report it on your income tax return.
- Breach of contract damages: The damages resulting from a breach of contract may be taxable if that breach caused your injury.
Because different elements of your settlement may be subject to taxation, keep all documentation to ensure you can distinguish between types of damages. Viewing the settlement as a lump sum may complicate your ability to pay taxes on the correct portions of it.
Taxation Varies on a Case-by-Case Basis
While the above answer to “Are personal injury lawsuit settlements taxable?” is generally true, the IRS has no absolute rule regarding settlement taxation. Many factors can impact whether you must pay taxes on any portion of the settlement. Hiring a personal injury lawyer will help you navigate this process correctly.
At Novitzke, Gust, Sempf, Whitley & Bergmanis, we provide skilled, passionate representation for victims of physical injury due to another party’s negligence. Fill out our online form or call us today at 715-268-6130 for legal consultation.
