Winning a lawsuit is no small victory; it can lead to the compensation you desperately need to cover medical expenses and help you move forward after a personal injury. Before you celebrate your win, however, understand the possible fees and taxation associated with a compensation award or judgment in West Virginia. After your West Virginia personal injury attorney takes the agreed-upon portion of your award, you may face another collector – the Internal Revenue Service. Learn whether you have to pay taxes on your injury settlement to avoid penalties from the IRS.
Types of Damages
According to 26 U.S.C. § 104(a), the federal government will not tax “the amount of any damages (other than punitive damages) received on account of personal injuries or physical sickness.” This encompasses any damages received via suit or agreement (either lump sum or periodic payments) and covers general damages such as medical costs. Any amount you receive for property damage, such as a totaled car, is also not taxable. However, the law doesn’t include emotional damages as “personal injuries.” Therefore, the IRS may tax your noneconomic damages. These may include:
- Pain and suffering
- Emotional distress
- Mental anguish
- Lost capacity to earn wages
- Lost enjoyment of life
It’s also probable that the IRS will tax compensation for lost wages or missed time at work. This is because the government sees this amount as money that would have been taxable were it not for the income loss. Your settlement check will most likely show your award in one lump sum, not a breakdown of your separate damage amounts. It will be up to you to allocate separate amounts for each type of damage for tax purposes. Seek help from a tax preparer for this task.
Note that if you deduct your accident-related medical expenses on your tax return, they will be subject to taxation. You may only list these expenses as a deduction if you didn’t receive reimbursement for these costs. Since all personal injury settlements include payment for medical bills, these costs then become non-deductible. If you listed these costs as deductions on a previous tax return, you may need to pay income tax on this part of your settlement.
Punitive damages are rare in personal injury cases. The courts will only award these if it deems it necessary to punish the defendant for his/her actions or deter future unlawful acts. Punitive damages might occur in cases involving intent to harm, unlawful acts, or gross negligence. Negligence is “gross” if it exhibits a willful disregard for the safety of others. If your case involved these extenuating circumstances and you received a punitive award, know that this type of compensation is always taxable under federal law.
What the IRS does and doesn’t consider taxable income can be complex and varies depending on the circumstances. Speak to a professional tax preparer if you have any questions or concerns regarding the taxation of a recent injury settlement. That way, you prevent the risk of being indebted to the IRS. Then you’ll be free to use your settlement as needed, whether you need to cover ongoing medical expenses or otherwise get back on your feet after an accident.