How a Personal Injury Settlement Can Affect Taxes

If you’ve recently suffered from a personal injury, you might have been able to collect damages through a settlement. While this can be a great source of relief, it’s important to keep in mind that such a settlement may affect your taxes quite a bit.

Depending on the components of your settlement, you may find that it affects your taxes substantially. Ultimately, the exact components you receive will determine how much you’ll have to pay in taxes — if you have to pay any taxes on it at all. The federal government has established guidelines for determining taxable parts of a personal injury settlement, but some of these regulations can be very complicated. This may be especially true if your settlement was large or if you received several types of damages.

Punitive Damages

Punitive damages may be awarded as a method of “punishing” the person or party responsible for causing the accident. These damages are often only awarded in cases where the liable party was significantly negligent or willfully violent toward the injured party. Punitive damages are more often considered taxable income by the IRS; the amount of taxes you owe on these damages will vary.

Compensatory Damages

Compensatory damages are intended to reimburse you for financial losses that you’ve sustained as a result of your injury. The amount of compensatory damages awarded can vary, based on specific individual factors.

Compensatory damages often include lost wages, medical costs, and other tangible financial losses. If you have received a tax deduction on the amount you paid, then you may be required to pay taxes on that amount. If your own compensatory damages account for wages that you lost, then you may be required to pay taxes on a portion of your award. Since this money is intended to make up for salary that you lost, you will likely be required to pay taxes on that amount.

Reimbursements for damaged or lost property are typically not taxed (except in cases where unless the amount awarded is greater than the value of the property). If the amount awarded exceeds that value, then that amount is considered income and will likely be taxed accordingly.

Although the federal tax liability guidelines for personal injury awards are intended to clarify the tax issue, they are still open to interpretation. In some cases, understanding the amount of tax you owe can be very complicated. It may be beneficial to speak with an tax and estate lawyer Sacramento trusts who is familiar with the tax laws in your state. Receiving trusted legal counsel may be the most effective way to ensure that you avoid penalties and other negative consequences of incorrect tax payments — while still receiving the compensation you rightfully won.

Yee Law GroupThanks to our friends and contributors from Yee Law Group for their insight into tax planning after a personal injury.