With tax season around the corner, many personal injury victims ask themselves: “Do I have to pay taxes on my settlement?” The good news is that most personal injury settlements are generally not taxable under both federal and Florida state law.
However, certain exceptions could make portions of your settlement taxable. Understanding these tax rules upfront can help you avoid unexpected liabilities when filing your taxes this year.
Because tax laws can be complex and vary depending on your unique situation, it’s important to consult with a qualified tax professional before filing. This blog provides general information concerning the taxation of personal injury settlements, but it shouldn’t be considered tax advice.
Can The IRS Tax My Personal Injury Settlement?
The Internal Revenue Service (IRS) generally does not tax personal injury settlements as long as they compensate you for a physical injury or an illness.
If you receive a settlement for medical expenses, lost wages due to suffering debilitating injuries, or pain and suffering caused by a physical injury, you typically do not owe taxes on that money.
Like many other states, Florida follows federal tax guidelines and does not impose state taxes on personal injury settlements either. However, while most of your settlement may be tax-free, there are some circumstances in which a portion of your compensation could be subject to federal taxation.
Given these potential complexities, speaking with a tax professional can help ensure you comply with IRS rules and avoid surprises.
Exceptions: When Are Personal Injury Settlements Taxable?
While the majority of personal injury settlements are not taxable, there are exceptions where the IRS may require you to pay taxes:
1. Interest on Your Settlement
If your settlement includes interest (such as pre- or post-judgment interest), that portion is considered taxable income by the IRS. This is because interest is considered additional income rather than compensation for an injury.
Interest on injury settlements must be reported on an IRS Form 1040, at line 2b.
2. Punitive Damages
Unlike compensatory damages, whose purpose is to make you whole again (reimburse you for your losses), punitive damages are intended to penalize the at-fault party. Because these damages are not tied to your injuries, pain, suffering, or distress, the IRS considers them to be fully taxable. However, it’s important to remember that not all injury claims include punitive damages, as they are only available through jury verdicts and only rarely. If you are unsure if your jury verdict included punitive damages, your lawyer will be able to tell you.
Punitive damages should be reported as “other income” on line 8z of an IRS Form 1040.
3. Emotional Distress (Without Physical Injury)
If you receive compensation for a situation where you experienced anguish or distress unrelated to a physical injury, the IRS may tax that portion of your settlement. You may only be exempt from taxation if the emotional distress you experienced is connected to a physical injury.
4. Lost Wages (In Certain Cases)
Lost wages are typically included in personal injury settlements to compensate for income lost due to an injury. While they are generally not taxable, there are exceptions.
If your settlement includes payments from an employment-related claim, such as back pay or severance pay, the IRS may consider this portion taxable as regular income.
5. Deductions for Medical Expenses Previously Taken
If you previously deducted medical expenses related to your injury on your tax return and later received a settlement covering those expenses, the IRS may require you to pay back those deductions.
This is called the “tax benefit rule” and applies if the prior deductions resulted in a tax benefit. A tax professional can help you determine if you need to adjust your tax return based on this rule.
How Can a Personal Injury Attorney at Aigen Injury Law Help?
While our Miami personal injury lawyers are not tax professionals, we can help you understand what parts of your settlement might be taxable. For tax-related questions, we strongly recommend speaking with a CPA or tax expert who can provide tailored advice for your specific situation.
We can offer legal advice on how to obtain proper financial guidance, as well as:
- Structure your settlement strategically to minimize tax liabilities where possible.
- Help you distinguish between taxable and non-taxable portions of your compensation.
- Provide referrals to qualified financial advisors or tax professionals who can help you manage your settlement.
Should I Hire a Financial Advisor?
If you receive a large settlement, consulting with a financial advisor or a tax professional alongside an experienced attorney is often a good idea. They can provide you with valuable financial advice, such as:
- Help you plan for filing your taxes if any portion of your settlement is taxable.
- Advise on investment opportunities to grow and protect your funds.
- Assist in budgeting so that your settlement lasts as long as you need it.
- Provide estate planning guidance if necessary.
Let An Experienced Lawyer Help With Your Settlement Tax Obligations
Most personal injury settlements are not taxable, but certain portions, such as punitive damages and interest, may be subject to taxation. Understanding these tax implications can help you make the most of your settlement.
At Aigen Injury Law, our Miami personal injury lawyers can help you manage your case and understand what happens after a successful settlement. However, for specific tax guidance, it’s essential to work with a qualified tax professional who can ensure you comply with all state and federal tax laws. If you have questions about your personal injury claim or need guidance on your next steps, contact us for a free consultation.
Even in Florida, where there’s no state income tax, certain portions of your settlement could still be taxed at the federal level. Planning ahead with a tax professional ensures you stay compliant and maximize your financial recovery.