After getting hurt, you can feel as if your life has been turned upside down. Whether you filed a small personal injury claim, or you hired a Philadelphia PA Personal Injury Attorney, you probably received some sort of financial settlement for the damages you encountered. Now, is the money you received from your injury claim or lawsuit subject to income tax?
A personal injury settlement can be non-taxable, partially taxable, or fully taxable dependent upon the type of case and compensation. Whether or not your claim is taxable depends on if there was a physical injury or physical sickness. The Internal Revenue Service (IRS) has many different guidelines. However, there is still some confusion as to which injuries are subject to be taxable.
Which Tax Code is Taxable?
The IRS states that “All income is taxable from whatever source derived unless exempted by another section of the Code” – IRC Section 61. However, there is an exception for some personal injury claims. The IRS regulation touches on if personal injury settlements and verdicts are taxable – this is the 26 C.F.R 1. This states in part:
“§1.104-1 Compensation for injuries or sickness.
(c) Damages received on account of personal physical injuries or physical sickness—(1) In general. Section 104(a)(2) excludes from gross income the amount of any damages (other than punitive damages) received (whether by suit or agreement and whether as lump sums or as periodic payments) on account of personal physical injuries or physical sickness. Emotional distress is not considered a physical injury or physical sickness. However, damages for emotional distress attributable to a physical injury or physical sickness are excluded from income under section 104(a)(2). Section 104(a)(2) also excludes damages not in excess of the amount paid for medical care (described in section 213(d)(1)(A) or (B)) for emotional distress.”
IRS Taxable Guidelines
The IRS has some guidelines in which a personal injury settlement would be excluded from income taxes.
Generally, you will not be taxed on money received from a personal injury claim or jury award for the following:
- Physical Injury
- Emotional Distress caused by Physical Injury
- Lost Wages resulted from Physical Injury
What is Considered Taxable and Tax-Free?
- Punitive Damages – if you receive punitive damages and compensatory damages, the two should be separated so you can distinguish them on your tax form.
- Interest on Judgement – Interest received for any length of time on a pending case is subject to taxes.
- Emotional Injury Only – This is unless you can show that you received some sort of physical injury.
- Breach of Contract – This goes for physical injury and sickness if the breach of contract, in fact, caused the injury.
- Compensation for lost income caused by physical injury
- Compensation for physical injury and sickness
- Compensation for medical costs
- Compensation from emotional distress caused by physical sickness and injury
Physical Injuries and Sickness
Up until the year 1996, those who received personal injury settlements, whether it be emotional or physical were considered tax-free. However, since then, the laws have changed. Typically, physical injuries and sickness is not taxable and does not need to be reported on your tax return. However, if you deduct medical expenses on any previous tax return, the money in which you deducted is then considered taxable. Also, any attorney’s fees that are related to a financial settlement because of physical injuries or physical sickness will also be regarded as non-taxable.
Claims for Emotional Distress or Mental Anguish
If you received a financial settlement because of emotional distress or mental anguish – this could also be tax-free. In this case, the mental anguish or emotional distress was related to the injury or sickness, and this would be titled as medical. However, if you have a claim for emotional distress or employment discrimination, but you did not receive any injury, then any settlement you receive would be taxable.
Are Punitive Damages Taxable
It is rare to receive punitive damages resulting from a personal injury claim. However, if you do receive punitive damages, these situations are taxed differently. With financial settlements received from punitive damages, the money in which you receive is not for compensation. Instead, it is intended to punish the at-fault individual.
Punitive damage settlements are not compensatory, including receiving punitive damages in a personal injury claim that is subject to be taxed. If you do not include this income on your income tax form it can cause other troubles in the future. When reporting this income, you will need to enter the amount on your 1040 Form as “Other Income.”
Is Property Damage Taxable
Typically, property damage settlements are not considered to be taxable. The IRS states that if you lose value in your property, and it is less than the basis of the property, then the settlement is not taxable. This is done to help lower the basis from the property by the sum of the settlement.
What this means is if your settlement is more than the basis of your property, the rest of the settlement is considered income.
Compensation for Lost Business or Income
Lost business or income in a personal injury case is considered nontaxable. This refers to the 26 U.S.C. § 104(a)(2) and Commissioner of Internal Revenue v. Schleier, 515 U.S. 323, 329-30 (1995). However, if the injuries are based on emotional distress, a verdict or settlement from loss of wages or business income can be taxable on the Federal level.
Let Us Handle Your Claim
How you go about handling your personal injury claim is crucial. After receiving your settlement, it is important to know if your settlement is subject to any taxes. There can be cases where you are filing multiple claims. It is important to have the settlement state which amount is for personal injury and which is for non-personal injury. With an experienced Philadelphia PA Personal Injury Attorney, we can work with your insurance company, doctors, and other medical facilities to ensure everything is handled correctly. When working with our Philadelphia PA Personal Injury Attorneys, we can help handle your claim so you can focus on what is important: your recovery and your health.