By Jedidah McKeehan
One of the questions that comes up from time to time with my personal injury clients is whether they have to pay taxes on their personal injury settlement.
Usually this conversation occurs when the insurance company has made a settlement offer, and I am talking with the client about the pros and cons of accepting the offer. The client may have concerns about whether the amount offered is adequate compensation for what they have experienced. Sometimes they will ask me whether they have to pay taxes on what they are offered and list the proceeds you received as income.
Although I am not a tax attorney, and cannot give out specific tax advice, my answer to that question is, “Generally, no.”
Why is that? Well, let’s think about it logically, and then dip our toes in to the specific tax provisions. So, because you have a personal injury claim, you have experienced a loss of some kind that needs to be compensated. By accepting a settlement, you are not moving forward monetarily, you really are just getting back to even after you receive a settlement. That’s the common sense part of why personal injury settlements are not taxable.
Let’s dive in to the specifics of the tax law though. Because Tennessee has no state income tax, we are looking at federal income provisions in regard to determining whether settlements are taxable are not.
The three primary things that people will think about being compensated for when they think about a personal injury settlement are lost wages, medical expenses, and pain and suffering.
If you are getting compensated for lost wages, then the amount you receive is taxable. That makes sense, because you would have had to pay taxes on the wages you would have made anyway.
If you are getting compensated for medical expenses, you generally will not have to pay taxes on those amounts unless you deducted those medical expense amounts in a prior year.
If you are getting compensated for pain and suffering, then you will not have to pay taxes on those funds.
Generally, though, none of this matters because the insurance company does not classify what they are paying you for in the settlement check that they send you. They just send you a check for your entire claim, with no breakdown or designation of what it is compensating you for.
I would obviously direct you to receive specific tax advice from your accountant, but because the insurance company does not give a breakdown of what they are paying you for, you are entitled to classify those settlement proceeds however you desire.
So, while you could potentially have to pay taxes on personal injury settlements, primarily if it is specifically compensating you for lost wages, you generally do not have to pay taxes on the settlement proceeds you receive.
Jedidiah McKeehan is an attorney practicing in Knox County and surrounding counties. He works in many areas, including criminal, personal injury, landlord-tenant, probate, and estate planning. Visit attorney-knoxville.com for more information about this legal issue and other legal issues.