You’ve been hurt at work or from a car wreck. You call your insurance company and file the necessary paperwork. In a couple weeks, you receive your settlement without going to court, and now it’s all finally over.
Or so you wish.
Depending on the case, some of that compensation might go to Uncle Sam next time tax season comes around.
Physical injury or sickness
For example, what if your vehicle was hit by another car and you had to be rushed to the hospital, where you find you’ve suffered from a concussion. You may want to pursue a settlement to help cover the medical costs. Neither the state nor the federal government can tax the amount you receive from that case because you’ve been physically injured.
While there are exceptions to every rule, it’s most often acknowledged that emotional distress caused by physical injury or sickness is non-taxable. If it’s the other way around, you will more than likely be required to include that in your taxes.
Exceptions to the rule
Like most life situations, there are still some grey areas, especially with newer tax laws. Emotional injuries are no longer enough to make a claim. There must have physical damage to your body, such as insomnia, headaches, or body aches, in order to have a claim that holds water.
Punitive damages are always taxable, and your lawyer will ask that these remain separate from compensatory damages, which cannot be taxed.
Last, but not least, interest is usually charged on pending verdicts. For example, if you’ve gone to trial but don’t win the case until a year later, there will be interest you must pay the court and that is taxable.
At the end of the day, your personal injury will most likely not be taxed; however, being informed about your legal rights is always a good idea.