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Are personal injury settlements taxable?

Lawyers discussing if personal injury settlements are taxable with client.

If you’ve been injured in an accident and receive a settlement, you might wonder, “Are personal injury settlements taxable?” The answer depends on several factors, including the type of compensation included in your settlement. At Smith Jordan Law, we understand how confusing tax rules can be, especially when dealing with the aftermath of an injury.

In this guide, our Greenville personal injury lawyers break down how settlements are taxed, what is exempt, and what you need to know to protect your financial recovery.

*Disclaimer: Lawyers with Smith Jordan Law are not tax attorneys or accountants. You should consult with a tax professional for your particular situation.

General rule: Most personal injury settlements are not taxable

Under federal tax law, compensation received for physical injuries or illnesses is generally not taxable. According to the Internal Revenue Code (IRC) Section 104(a)(2), amounts received as a result of personal injury or sickness are excluded from taxable income. This means that if your settlement compensates you for medical expenses, pain and suffering, or lost wages directly related to your injury, it’s usually not subject to federal or state taxes.

Taxable vs. non-taxable portions of a settlement

While much of a personal injury settlement is not taxable, some parts might be. Let’s look at the differences.

1. Medical expenses

  • Non-taxable: Compensation for past and future medical expenses related to your injury is not taxable.
  • Exception: If you previously deducted medical expenses on your tax return and received a tax benefit, the portion of your settlement used to cover those expenses may be taxable under the “tax benefit rule.”

2. Pain and suffering

  • Non-taxable: Compensation for pain and suffering related to physical injuries is not taxable.
  • Taxable: If pain and suffering are compensated in cases without a physical injury (such as emotional distress alone), this portion of the settlement may be taxable.

3. Lost wages

  • Taxable: Compensation for lost wages is considered taxable because it replaces income you would have earned, which would have been subject to taxes.

4. Punitive damages

  • Taxable: If part of your settlement includes punitive damages (awarded to punish the defendant), this amount is taxable, as it is not intended to compensate for your injury.

5. Interest on settlement

  • Taxable: Any interest earned on the settlement while waiting for payment is taxable income.

How South Carolina law affects personal injury settlements

South Carolina’s laws on personal injury settlements align with federal tax guidelines. State law, such as South Carolina Code of Laws Section 15-32-210, governs how damages are calculated, but the taxation of settlements generally follows federal standards. This means that while your compensation for physical injuries is likely exempt from taxes, other components like punitive damages or lost wages may still be subject to taxation.

Key steps to protect your settlement

  • Keep detailed records: Maintain copies of all settlement documents, medical bills, and receipts to show how your compensation relates to your injuries.
  • Consult an attorney: At Smith Jordan Law, we can help maximize your settlement and work with your tax professional.
  • Seek tax advice: Work with a tax professional to ensure you comply with IRS rules and avoid unexpected taxes on your settlement.

Protect your settlement with Smith Jordan Law

So, are personal injury settlements taxable? In most cases, compensation for physical injuries or illnesses is not subject to taxes. However, portions of your settlement, such as lost wages or punitive damages, may be taxable. At Smith Jordan Law, we’re here to help you navigate these complexities and secure the compensation you deserve while protecting your financial recovery. If you have questions about your personal injury settlement, contact us today for compassionate guidance.

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