Do I have to Pay Taxes on an Out-of-Court Settlement?

If you are involved in a personal injury lawsuit and are considering a settlement, you may be curious about the potential tax implications. As a general rule, a case is taxed the same way regardless of whether it settles or gets a judgement in court. However, these settlements or judgments can be structured in a way to take advantage of certain tax laws.

Most settlements or judgments can be broken down into categories. For example, an agreement or judgment might have categories like emotional distress, lost wages, medical bills or attorney fees. The taxes due will ultimately depend on the type of damages or category that is being paid out. Here are the most common types of damages and how they will affect your taxes.

Lost Wages & Pain and Suffering

If you are making a physical injury claim, then the IRS can NOT tax you on any any money you received from either a settlement or verdict that you receive that is designed to compensate you for lost wages or pain and suffering.

Medical Expenses

Likewise medical expenses are NOT taxed. However, if in a previous year you itemized deductions and claimed medical expenses that you are being reimbursed for in the settlement, then that money is taxable.

Emotional Distress

Damages for emotional distress that is caused by a physical injury or sickness is NOT taxed. Damages for emotional distress from other types of claims may be taxable by the IRS.

Punitive Damages

Punitive damages are always taxable regardless of what the reason for the lawsuit was.

Attorney Fees

Attorney fees that are typically associated with a personal injury lawsuit is NOT taxable. However, if the lawsuit specifically makes a claims for attorney fees, those funds may be taxable.

Ultimately the tax implication of funds received in a settlement can quickly become very complicated. Be sure to consult with an attorney about all the potential tax implications if you are considering a settlement or just received a verdict. The Packard Law Firm is committed to helping individuals who have been injured make the best decisions for them and their families including the tax implications of those decisions. Reach out to us today.