In the United States, a majority of civil litigation consists of personal injury lawsuits. According to the US Department of Justice, Bureau of Justice Statistics, some form of personal injury was involved in 60 percent of the 26,928 real property, contract, and tort trials in 2005. Statistics show that 4 to 5 percent of personal injury lawsuits go to trial. This means that 95 to 96 percent reach settlement before it can go to court. According to experts, 90 percent of personal injury cases that do go to trial do not win. A settlement occurs in a legal case when a resolution is agreed upon outside of court by the parties. In a Final Settlement Agreement, both the parties will waive their rights to take any further legal action or pursue monetary recovery in that case. The courts encourage settlement as it allows the parties to resolve the matter in a way that is mutually beneficial and also, it lessens the congestion at courthouses. Depending on the type of personal injury case and the type of compensation that the plaintiff pursues, a settlement in a personal injury case can be taxable, nontaxable, or partially taxable. The taxable status of a settlement often depends on whether or not a plaintiff suffered “physical injury or physical sickness”. Several broad guidelines are set by the Internal Revenue Service (IRS), but there is a lot of debate as to which specific injuries are taxable.
Physical Injuries and Physical Sickness
Until 1996, whether it was for physical or emotional injuries, most personal injury settlements were nontaxable. However, the laws at present are more restrictive. Generally, physical injuries and physical sickness are tax-free. For example, injured by a defective lawn mower, Bob Smith has $90,000 dollars in medical expenses. Bob gets a settlement from the lawn mower company for $90,000. It will be a tax-free personal injury settlement and does not need to be reported on a tax return. But, there are exceptions like most legal areas. If the $90,000 dollars in medical expenses was deducted in a previous tax return, the settlement will not be tax-free. A personal injury monetary settlement based partially on mental anguish or emotional distress may be tax-free. If a physical injury or physical sickness directly lads to the mental anguish or emotional distress, it is considered “medical” and, therefore, tax-free. Let us make a few changes to Bob’s settlement case to create an example. Bob again gets a $90,000 dollars settlement with the lawn mower company. $60,000 was provided for his medical expenses due to extensive leg surgery. Bob also receives compensation of $30,000 for mental anguish as he had to live in a cast for over six months and deal with daily pain. It would be likely that Bob’s $30,000 dollars for mental anguish is tax-free because it is directly related to his physical injury. When it comes to monetary award for physical injuries and physical sickness, an attorney’s fees may be non-taxable as well.
Taxable Settlement Amounts
Interest
The amount received in a personal injury settlement attributed to interest is generally taxable.
Mental Anguish and Emotional Distress
As referenced above, when mental anguish or emotional distress is directly related to physical injury or physical sickness, compensation can be non-taxable. However, when the mental anguish or emotional distress and a physical injury or physical sickness are not directly related, the settlement amount is taxable. In this example, a lawn mower has not injured Bob. Instead, several people are told by Bob’s neighbor that Bob steals money from the local church. It turns out that these statements are completely false and due to his loss of reputation in the community, Bob’s local hardware business is ruined. Bob files a defamation lawsuit against the neighbor and a settlement of $30,000 is agreed upon out of court. In this case, it would be likely that the entire $30,000 dollars is taxable because purely emotional and monetary damage was suffered. Other taxable personal injury settlements with non-physical injuries include discrimination, invasion of privacy, wrongful termination and harassment. Again, the settlement award is taxable because no physical injuries are involved.
Punitive Damages
Punitive damages, a monetary award that goes beyond ordinary compensation for injuries, may be awarded to an injured person. It is intended to punish the wrongdoer. Generally, punitive damages are taxable. It is subject to limited exceptions and it does not matter if physical injuries or physical sickness are involved.
The Best Law Firm from around the Way
If you or a loved one have been injured in an accident and are worried about medical costs or future earnings, you should seek the help of an experienced personal injury attorney at Rosenberg, Minc, Falloff, & Wolff of RMFW Law at 212-344-1000. We have won millions of dollars for past clients. We know a winner when we see one. We are not paid until you are paid. We keep you informed along the way.
