Now that tax season is upon us, many people have questions about what they need to claim when they receive compensation from a workers’ comp insurance benefit or from a personal injury settlement. While workers’ comp benefits and settlements from personal injury claims are not usually considered part of a taxpayer’s gross income and therefore not taxable, there can be exceptions and other things to consider.
If you are injured on the job and compensation is received through your employer’s workers’ comp insurance policy, it is generally not considered taxable income. However, if you are also receiving disability benefits through Social Security Disability Insurance, there could be exceptions to this rule. Consulting with a law firm such as Wittmer | Linehan, with extensive experience in both workers’ compensation and social security disability claims, is highly recommended.
Understand that there is little incentive for the workers’ comp insurance carrier to act on your behalf, and while they must act according to their duties and responsibilities to the injured employee, you might find it necessary to involve a lawyer to ensure you receive the full benefits you are entitled to and have your settlement structured in a way that benefits you the most.
If you didn’t receive workers’ compensation benefits, and instead received compensation from a lawsuit against your employer, any monies you received to cover medical bills, pain and suffering, emotional distress, and attorney fees due to a personal injury or sickness are not taxable. Just make sure that any anguish you’re receiving compensation for is related to an injury or sickness that resulted from the accident in question.
Of course, although damages related to a physical injury or sickness are not taxable, almost every legal and tax-related rule has its exceptions. There are a number of other personal injury settlements that are taxable. If you are seeking a settlement with regards to an invasion of privacy, harassment, or discrimination, and there are no actual physical injuries or sickness, the settlement awards are taxable. The same rules apply for a wrongful termination settlement or an award with compensation for lost wages or loss of income.
Because these situations can often take years to sort out, if you claimed any of these expenses in a previous year, portions of your settlement could be taxable. While it’s perfectly legal to deduct your out-of-pocket expenses for any necessary medical care that resulted from your injury, it is not legal to double-dip. If you’ve already been compensated for those expenses, the IRS expects you to pay back what you previously deducted, and your settlement could be considered as “other income,” which you’ll have to report.
You’ll also need to report anything you receive due to a breach of contract. Even if the breach of contract was the cause of your physical injury or sickness, if the breach of contract is the basis of your lawsuit, you’ll need to report it.
The recovery of punitive damages is also taxable. An injured person will often seek money that goes beyond the ordinary compensation for injuries in order to punish the negligence of the defendant. If you are seeking punitive damages, your attorney will work with the judge to ensure that your verdict is separated into compensatory damages and punitive damages. While compensatory damages resulting from a personal injury or sickness are not taxable, punitive damages are, regardless of whether or not an injury was involved.
If your personal injury verdict includes interest on the judgment, that interest is also taxable. Often, a court will rule that interest be added to the verdict for however long the case has been pending. As this is not directly related to physical injury or sickness, it is considered to be “interest income” and should be reported as such.
Personal injury cases are complicated things, and questions are always bound to arise. Just as it is advisable to consult an attorney at the beginning of your case, it is advisable to seek good counsel throughout the entire experience. If you have questions about your settlement reward, don’t hesitate to ask us. We’ll be glad to provide an in-depth analysis of your personal injury settlement and the tax consequences involved.