Do I Have to Pay Tax on My Personal Injury Settlement?

When your Boca Raton personal injury lawyer tells you the amount they’ve managed to agree as a settlement for your claim, you are happy to realize that it covers your damages. But then you wonder: do I have to pay tax on my personal injury settlement? After tax, will the remaining amount really cover my economic damages, at least?

Here is what you need to know about the taxation treatment of settlements in personal injury claims.

Some Portions of the Settlement Are Not Taxable

The good news is that the biggest parts of a personal injury settlement are not taxable. Compensation for medical bills and pain and suffering are excluded, since they are not regarded as incomes.

Also any loss-in-value of property settlement is exempt from taxation. In car accident claims, the diminished value claim settlement qualifies in this category. However, the exemption is applicable only if the settlement amount is less than the adjusted basis of the property.

However, other portions of the settlement must be included into your annual tax return, as follows:

Medical Care Costs Deducted Beforehand

The IRS guidelines to reporting personal injury settlements states that you must include in the tax return the portion for medical expenses which you deducted in any prior years if this deduction provided a tax benefit.

For example, you suffered your personal injury accident in 2023 and you deducted $5,000 representing medical care costs while your claim was pending. This deduction generated a tax benefit. Your attorney settled the claim in 2024. Thus, you must include the amount of $5,000 in your tax return for the year 2024.

Non-Economic Damages for Emotional Distress Not Caused by a Physical Injury

Non-economic damages for pain and suffering can cover various aspects. In some cases, your lawyer may obtain compensation for emotional trauma and mental anguish which are not related to a physical injury.

This portion of your settlement is taxable and must be reported.

Lost Wages

Economic damages for lost wages are taxable. The reasoning of tax authorities is that this amount of money replaces the regular wages you would have received from your employer if the accident had not happened.

Since wages represent a taxable income, so does the portion of the personal injury settlement for lost wages.

Punitive Damages

During the investigation of your accident, your Boca Raton personal injury lawyer may find that the other party acted with gross negligence or willful intent. In this case, you may be able to file a lawsuit and demand punitive damages.

If the jury awards you these damages, you must report the respective portion of the settlement as “Other Income” in the Form 1040, Schedule 1. There is no exemption from taxation, even if the punitive damages were awarded for physical injuries or physical sickness.

Learn More about Settlement Taxation from a Boca Raton Personal Injury Lawyer!

As an honest and law abiding citizen, you don’t want to receive an IRS audit for failing to report various types of income. This matter can get extremely complex if you received a large personal injury settlement after an accident resulting in severe injuries and a long period away from work.

Fortunately, an experienced Boca Raton personal injury lawyer will help you understand how the lump sum is divided by types of damages included in your letter of demand. With a clear breakdown of settlement amounts and advice from a tax consultant, you will report every type of taxable income.

Reach out to us for legal advice and representation after your personal injury accident. We offer each new client a free case evaluation, so call us at 786-686-2857!