Navigating the intricacies of taxes is a challenge even during the smoothest of times, and it becomes an even more daunting task in the aftermath of an unfortunate incident. This begs the question: are personal injury settlements subject to taxation?
Incorporating a personal injury settlement into your annual income may result in a significant setback, both financially and figuratively. The sheer magnitude of some settlements can propel you into a higher tax bracket, turning what should be a resolution into a fiscal nightmare.
However, there’s no need to be cowed by the Internal Revenue Service (IRS). Whether you find yourself embroiled in an ongoing legal battle or emerging victorious from a claim, a Virginia Beach personal injury lawyer can help unravel the complexities of your post-case financial landscape.
The IRS’s Stance
Before you start wondering if you can fire your personal injury lawyer amidst your taxation concerns, take a step back and review the IRS’s approach to personal injury lawsuit settlements. Publication 4345 details that personal injury settlements generally enjoy exemption from gross income, unless specific conditions dictate otherwise.
This publication mandates that the injuries must be of a physical nature and a direct consequence of the situation that resulted in your accident. According to tax laws, compensation for personal injury lawsuits remains exempt from federal law or taxation from the state of Virginia.
This is because the purpose of a personal injury settlement is to support victims, act as a remedy for the injuries sustained, and compensate for the disruption in their lives–including expenses and income losses incurred from the accident.
What Damages Are Tax Exempt?
Certain damages are tax-exempt, while others are not. Let’s explore which damages are exempt from taxation from your settlement:
Compensatory Damages for Physical Injury
Compensatory damages for physical injuries are a nontaxable sanctuary ordained by both the IRS and the state–in this case, Virginia. This shelters typical personal injury compensation, from lost income to medical costs, emotional distress to pain and suffering, all the way to the legal fees. The caveat? They must trace their origins back to the physical injury.
Emotional Distress Born of Physical Injury
If you received compensation as a result of emotional distress from your injury, that money is tax-exempt. However, there is an exception. You cannot claim itemized deductions for any medical costs relating to the emotional distress of mental anguish on your taxes.
Wrongful Death Lawsuit Settlements
According to IRC Section 104(c), the IRS does not tax on compensation issued as a result of a wrongful death case.
What Settlement Income Is Taxable?
There are certain situations where your settlement income may be taxable. For example, if you are awarded compensation from pain and suffering, but sustained no physical injuries, you may need to pay taxes on that income.
Other examples include:
- Lost wages
- Punitive damages
- Deducted expenses
We recommend connecting with an accountant as well as your legal team to confirm which income from your settlement is taxable. The last thing you need as you recover from your injuries is an IRS investigation.
Next Steps With Coastal Virginia Law
As you prepare your taxes, it’s important to do your due diligence and report all taxable settlement income to both federal and state governing bodies. If your personal injury settlement has encountered issues regarding taxes, contact the legal representatives at Coastal Virginia Law to better understand your options.
For more information, including what questions you should ask a DUI lawyer, check out our latest post!