Most personal injury cases settle before going to trial. This is because when you accept a settlement from either the insurance company or the defense attorney and sign a release, your case is considered to be resolved. What happens once your case is resolved, though? You’d hope that you’ll receive your money quickly (minus your attorney’s contingency fee) so that you can get back to living your life. Unfortunately, it isn’t that easy because the government may be entitled to some of your settlement. Here are some tax issues that may be applicable here.
When you’re compensated for a physical injury, it isn’t taxable
Generally, this is true for both federal and state laws, regardless of whether you settled in or out of court. Federal tax law (the IRS) excludes any damages that you received due to personal physical injuries or physical sickness from your gross income. This is because the IRS sees that you’re being compensated for things like medical bills, pain, and suffering, lost wages, loss of consortium (business), emotional distress, and attorney fees.
There are some exceptions to this rule
Before you walk away thinking that you’ll never be taxed for any money that comes from these settlements, you should know that there are some times when the settlement money is taxable. It’s important to know what these are so that you aren’t surprised by them.
Settlements from a breach of contract are always taxable
Even when suffering from a personal injury or physical sickness, your damages will be taxed if they relate to a breach of contract. In other words, when a breach of contract results in your injuries and thus serves as the basis of your lawsuit, any settlement fees are taxable.
Punitive damages are always taxable
A court may include payment for punitive damages in your settlement. These are considered “punishment” for especially harmful behavior on the part of the defendant. Your lawyer should ask the judge to separate this verdict into punitive damages and compensatory damages to ensure that you’re able to prove to the IRS what part of the verdict was for compensatory damages since they aren’t taxable.
Interest in your judgment in a personal injury case is taxable
Another part of your personal injury verdict, which is taxable, is any interest in your judgment. In most states, there are court rules that add interest to your verdict based on the length of time your case was pending. For instance, if you were to file a lawsuit on January 1, 2019, you should receive interest starting on this date and running until you receive payment. This means that if you don’t win your trial until January 10, 2020, and then the defendant enters an appeal that drags the case out until March 31, 2021, you’ll receive two years and three months of interest payments on top of the amount you receive in the verdict. Unfortunately, you’ll be taxed for this part of your settlement.
Take some steps to ensure that as much money as possible isn’t taxable
If you have two claims against a defendant (one personal injury and one emotional injury), make sure that it’s explicitly stated in your settlement agreement how much money is for each type of injury. This is especially important when you’re being offered more money for your injuries than you are for your emotional injuries. Although this is something that the IRS can still challenge the non-taxability of your settlement, having this in writing will give you the best chance of success.
For more information on personal injury cases or help with settling yours contact the Blenner Law Group Palm Harbor in Palm Harbor, FL, today.
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