Pay Tax On A Car Accident Settlement Or Judgment In The USA
You only pay taxes on a car accident settlement if the settlement you received includes taxable money you would have received had you not been injured. For example, compensation for lost income or lost profits is usually taxable, but compensation for injuries is not.
Depending on the types of damages you suffered and the awards you are given, including how the awards are structured, part of your settlement may be taxable while parts of it may not be.
Understanding Taxation of Car Accident Settlement Payouts
Personal injury and car accident claims can take months to more than a year to be concluded. You may have fought long and hard for compensation by the time your award reaches you. Once you receive it, you must not forget to pay taxes on whatever portion of your settlement or award the Internal Revenue Service (IRS) deems taxable.
Regarding how much tax you pay on a lawsuit settlement, money received in a settlement is treated as income and taxable. However, various exceptions may apply. Awards and judgments for personal injury cases are usually not taxed, and any bodily injuries that can be classified as observable physical harm can be treated as tax-exempt. Pain, suffering, and emotional distress are accident-related issues that may be non-taxable if you had to undergo medical treatment for them.
On the other hand, you must pay taxes on most categories of punitive damages, the compensation you receive for lost wages or lost income—since wages and income would have been taxed by the IRS anyway—and damages received in civil rights cases. If you were compensated for stolen intellectual property rights, copyrights, or a breach of contract, or received pension compensation, those awards may be taxed as well.
Here are a few examples of how these categories of compensation may be handled in a court of law:
- You sued a competitor and were reimbursed for lost profits. These payments are taxable.
- Your employer fired you, and you sued for discrimination and won. The wages you lost that are reimbursed as part of your settlement are taxable.
- You suffered a workplace injury and could not work but were compensated for lost income. These awards are taxable.
- After suffering a workplace injury, you also received personal injury compensation to cover your medical treatment. These awards are not taxable.
One critical factor to keep in mind for car accident settlements and judgments is that attorney’s fees are taxable. The agreement between you and your attorney is between you and your attorney.
Many attorneys take personal injury and car accident cases on a contingency fee basis, so they only collect their fees if they win your case. For example, your attorney may take one-third of your settlement, or 40 percent of your awards if your case goes to trial. These amounts are based on whatever agreement you have between yourself and your lawyer.
The court hands out awards based on the strengths of your case, and the court’s decision is independent of your client-attorney relationship. The IRS will treat your award settlement the same way. You will have to pay taxes on the entire taxable portion of your settlement, not just the amount you get after paying your attorney’s fees. Because of this, it is important to discuss your case with an attorney and an accountant so that you know how to structure your payout to minimize your exposure to tax losses.
Structuring and Classifying Your Settlement
You may structure your settlement so that you receive it in tranches over a long period of time instead of all at once to avoid being too heavily taxed. According to the IRS, you may also classify your damages as either general or special damages, which might help lessen your tax burden, based on their settlement taxability rules.
Call the Law Offices of Wolf & Pravato if You Have More Questions
You can call the Law Offices of Wolf & Pravato to learn more about taxes on car accident settlements and judgments in the USA. A member of our team can also explain what your rights and responsibilities are after a car accident. Please call our team today at (954) 633-8270.