21 Jan 2021

By Kyle Brown

In Personal Injury

As a trusted personal injury law firm, Brown & Hobkirk, PLLC understands that you may have many questions regarding your personal injury accident settlement, including whether or not you have to pay any taxes on your settlement.

While the short answer is that the personal injury accident settlements are not typically taxable, under certain circumstances they can be taxed. During your settlement negotiation, you will want to work with an experienced personal injury attorney, so that your negotiation includes appropriate tax considerations. Working with a personal injury attorney, who knows how to properly structure your personal injury claims, will allow you to limit your tax exposure and keep as much of your settlement as possible.

What Is NOT Taxable In A Personal Injury Settlement?

Most personal injury settlements are not considered taxable income. A personal injury settlement is considered reimbursement for losses that you have suffered or will suffer, because of your injuries. This is not considered income, so it’s not generally taxable.

This means that you will not have to pay taxes on the portion of your settlement that compensates you directly for your physical injuries. The non-taxable portion of a settlement can include compensation for:

  • Medical bills
    • Hospital stays
    • Surgeries
    • Doctor visits
    • Physical therapy or rehabilitation
    • Prescription costs
    • Assistive devices (wheelchairs, crutches, canes, etc.)
  • Lost wages
  • Pain and suffering
  • Emotional distress (with exceptions noted, below)
  • Attorney fees

What Is Taxable In A Personal Injury Settlement?

What Is Taxable In A Personal Injury Settlement?

Determining the tax details for your personal injury settlement can be complicated. As we discussed above, you won’t need to pay taxes on your personal injury settlement that compensates you for your physical injuries. However, as is often the case with tax law, there are exceptions to this general rule. The following exceptions are generally considered taxable:

  • Deducted Medical bills: If you paid medical bills related to your injury accident and then deducted those medical costs from your taxes, it would be subject to tax. If you were later reimbursed for the money you paid for those medical costs, you would have to pay taxes on the medical portion of your settlement.
  • Breach of Contract Claims: If you breach your settlement agreement, you may be responsible for paying taxes on the damages relating to your breach of contract.
  • Punitive Damages: Punitive damages are awarded to plaintiffs when compensatory damages (medical, lost wages, etc.) are an inadequate remedy for the defendant’s actions. Punitive damages are taxable. If a jury awards a plaintiff punitive damages, the plaintiff must pay the appropriate taxes on those damages.
    • In order for the plaintiff to have a reliable record of their tax obligations, they should ask the judge:
      • to outline which compensation applies to the plaintiff’s physical injuries and other damages, and
      • to outline how much of the compensation reflects punitive damages.
    • Example: A person deliberately drives into a crowded street and hits you with their car leaving you with severe physical injuries. This type of criminal and destructive conduct may warrant punitive damages. The purpose of the punitive damages would be to deter similar future conduct. In this scenario, if you were awarded punitive damages, you would need to pay taxes on that portion of the award.
  • Emotional Distress: Unlike physical injuries, emotional injuries are subject to taxation if those injuries didn’t result directly from the physical injury. The IRS states that a physical injury must be visible to the naked eye. So, if you sue for emotional pain and distress, the injury must be a direct result of a (visible) physical injury suffered from your accident.
    • Example: You are rear-ended at an intersection and suffered a debilitating neck injury, which leaves you in constant pain. As a result of this physical injury, you become clinically depressed. Since your emotional distress (depression) resulted from your physical injury (neck injury), it would not be subject to taxation.
  • Judgement Interest: This interest qualifies for taxation. If you win an award but don’t receive the money for some time, you typically accrue interest on your awarded amount. This accrued interest is taxable.
    • Example: You won at trial, but the defendant appealed, and it took two years to resolve the appeal. You would accrue interest during the two years the appeal was pending. This accrued interest would be subject to taxation.

Do I Have To File My Settlement With The IRS?

According to the IRS, you don’t have to include your personal injury settlement proceeds in your income, if:

  •  You received a settlement for personal physical injuries or physical sickness, and
  •  You did not take an itemized deduction for medical expenses related to your injury or sickness in prior years.

It’s essential to pay your applicable taxes on all proceeds from a personal injury lawsuit because failure to pay could lead to serious legal consequences. For more information on the taxing of personal injury lawsuit awards and settlements, you can review the following IRS guidelines at https://www.irs.gov/pub/irs-utl/lawsuitesawardssettlements.pdf. If you are unclear about your tax obligations, you should meet with an experienced tax lawyer or accountant to discuss your options.

Contact Us

It’s never too early to think about the potential tax consequences for your personal injury settlement. Even the selection of claims alleged in a demand letter or complaint can place you in a better or worse position tax-wise, which is why it’s important to work with a skilled personal injury lawyer that can properly structure your personal injury lawsuit.

At Brown & Hobkirk, PLLC our approach is to make our personal injury clients whole again, so that you don’t needlessly suffer financially after an accident that’s not your fault. We will fight to maximize the amount that you can receive for pain and suffering, emotional distress, and other damages. We will work to properly structure your claims to take into account possible tax consequences, so that you can keep more of your personal injury settlement.

Reach out to a compassionate lawyer at Brown & Hobkirk, PLLC today. We serve our personal injury accident clients in our conveniently located offices in Scottsdale, Phoenix, Chandler, and Tucson. Call us today or fill out our online contact page.

Kyle Brown

Kyle primarily focuses on representing clients in serious personal injury claims and wrongful death cases. He also assists clients with estate planning, estate administration, divorce, family law and other related legal matters.
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