Taxes are a part of life. If you earn income in America, you know this fact all too well. However, many times, earnings that you would not normally consider “income” are considered taxable per the IRS. Are auto accident settlements a part of this group of incoming money that is taxable, or are they exempt from being taxed?
We have asked attorney Alaina Sullivan about what you should do. Here is what she had to say:
“It Depends”
Like many legal questions, the answer is not a simple yes or no but more of an “it depends” answer. It depends on what the money is intended to do in the settlement as to whether you will be taxed on the amount. Damages include a number of values: medical bills, property damage, pain and suffering, and lost wages. Each of these values are handled differently when it comes to taxes.
Property Damage
If your settlement award includes money towards property damages, this money is not considered taxable. These damages include money to repair damage to your car or the car’s actual cash value.
Medical Bills
If your settlement includes payment towards medical bills, this award is normally tax exempt. However, one exception does exist. If you have already taken tax deductions for out-of-pocket medical expenses you paid on a previous tax return and are later given that money back in a personal injury settlement, that reimbursement is subject to taxes. Essentially it would otherwise be considered “double-dipping” in tax benefits.
Lost Wages
If you were out of work due to your injuries sustained from the car accident and were compensated for lost wages in the settlement, you would be taxed on these earnings. After all, these are wages you would have earned on a normal basis but for the injury. Therefore, the IRS views these lost wages as money you would have been taxed on regardless. Therefore, this portion of your settlement award is taxable income.
Pain and Suffering
When it comes to pain and suffering awards, it depends on the type of suffering you endured when it comes to taxable income. Pain and suffering and emotional distress are often lumped together, but they are actually two separate animals. Pain and suffering is not taxable but money for emotional distress is taxable. Why is there a difference?
The difference is a matter of physical injury and non-physical injury. Pain comes from being physically hurt while emotional suffering includes depression, post-traumatic stress, and anxiety. It may not seem fair, but the IRS considers money that goes towards emotional “injuries” to be taxable income. However, if the award includes money that is compensation for therapy or other medical treatment that goes along with your emotional distress, that money is not taxable. That distinction is important. Receiving a flat sum of money for “emotional distress” is considered a windfall of sorts but receiving money for extensive doctor’s visits and therapy for this emotional distress is protected from the IRS. It is for this reason that it is often wise to consult with an attorney on how to categorize your injuries when coming up with a settlement agreement. While it is understandable that you have emotional distress from the accident, it may be wiser to categorize them as pain and suffering.
Punitive Damages
Punitive damages are damages that are given out as a means of “punishing” the at-fault driver. Normally, they are given when the other driver’s behavior was so egregious or reckless that the court would want to punish the driver from doing this behavior again. They are not common but depending on the severity of the accident, they can be awarded. The IRS has been fairly clear in stating that punitive damages are taxable income. Because the damages come from the bad behavior of the defendant and not from the injury themselves, the IRS views it acceptable to tax these damages, if awarded.
Contact an Attorney Today
If you have been in a car accident and have questions about your settlement earnings and the tax consequences of these, it is always recommended you contact an attorney today to discuss your case if you do not currently have a lawyer or have any questions. A licensed personal injury attorney will be able to evaluate your case and determine if you have a claim against the other party’s insurance company. To receive the compensation for your medical bills, property damages, and pain and suffering, you should speak with a personal injury attorney in your area today.
