Are Pain and Suffering Settlements Taxable?
Personal injury lawsuits can arise for a variety of reasons. Whether it be an injury at the hands of a business or corporation, the negligence of an individual, or even a dog bite, victims of personal injury claims are entitled to compensation for their injuries.
It can be a relief when you finally receive compensation following a personal injury claim. Unbeknownst to many, however, tax liabilities for damages received can impact how much financial recovery you will actually receive.
Let’s go over some common types of damages victims of personal injury claims can expect along with the tax liability that comes with each type of compensation. If you’ve been hurt in a car crash or suffered another personal in\jury in the Antelope Valley, call a dedicated Palmdale injury attorney at the Kistler Law Firm for help.
Understanding Personal Injury Claims
When a person is pursuing a personal injury claim, the type of damages they can seek is broken down into two categories: compensatory and punitive damages. Compensatory damages are further broken down into two subcategories: economic and non-economic. The different types of damages receive different tax treatment under the law, so it’s important to understand the difference between the two and consider this difference when structuring a settlement. Compensatory damages can include payment for the following:
- Medical bills and medical expenses incurred as a result of the injury (non-economic)
- Mental and emotional distress caused by the injury (non-economic)
- Repayment for damage to physical property (economic)
- Loss of income, wages, and earning capacity as a result of the injury (economic)
Taxation on Damages Received for a Personal Injury Claim
It can be a moment of relief and even exciting to reach a settlement in your personal injury claim. However, it’s important to consider the tax implications that may follow as a result of your settlement.
Both in the state of California and on the federal level, there are rules and regulations regarding taxation on settlement awards. Not all settlements are subject to taxation, and not all states follow the same guidelines for taxation. Let’s take a look at how different aspects of a settlement are taxed when it comes to damages received as a result of a personal injury claim.
Non-Economic Damages are Tax Exempt
In the state of California, financial reimbursement in the form of non-economic compensatory damages is tax-exempt. The purpose of these compensatory damages is to relieve an individual of any financial burden brought on by an injury. By its nature, taxing such compensation would be a burden to the victim. Because of this, neither the state of California nor the Internal Revenue Service (IRS) tax non-economic damages.
Compensation for Pain and Suffering and Physical Injury
Damages sustained due to pain and suffering after an injury are considered non-economic damages and are not subject to taxation. However, there is a distinction between compensation for emotional pain and suffering and compensation due to physical injury or health ailments. If the basis of a lawsuit is purely rooted in mental or emotional distress, then an individual may be subject to taxation on the compensation received. However, if an individual’s lawsuit is based on a physical injury or physical ailments, then compensation received will not be taxed by the state or the federal government. In the majority of personal injury cases, non-economic damages for pain and suffering, mental anguish, or emotional distress are tied to a physical injury, so there is no concern that they might be considered taxable.
Loss of Income and Lost Wages
Lost income and wages are the “economic damages” side of compensatory damages. In the very manner that wages and income are taxed by both the state and federal government, the same standard is applied to damages received for lost income and lost wages. If you receive a compensation package that reimburses you for lost income or lost wages, you will likely need to pay taxes on the compensation you receive. Taxation on that income is dependent on how the income was generated. Speaking with a tax expert can help you further understand your tax liability.
Punitive damages are like a fine levied on defendants to deliver a type of punishment. Unlike compensatory damages, punitive damages are not meant to reimburse you for your financial losses. While punitive damages are not typically offered in personal injury claims, there are certain circumstances where they may come into play. If you are awarded punitive damages, you will be taxed on them. Because of this, it’s important to consider the type of damages you are seeking and the amount allocated for them should you receive them.
Speak with an experienced legal professional
It’s important to understand how your settlement structure is put together. If you are seeking damages that are subject to taxation, this could impact the total financial support you can expect to receive when all is said and done. Because of this, it’s important to speak with a lawyer who understands the taxation laws in your state and how they will impact the outcome of your compensation.
At Kistler Law Firm, our team of experienced legal professionals will help fight for your rights not only for a fair settlement but one that could potentially lessen your tax liability when it comes to damages received. Reach out today to speak with a team member who will help you navigate your case.