Personal injury settlements are generally not taxable in California, but there are some exceptions. Here are the details you need to know about the tax effect of personal injury settlements if you live in Carlsbad, CA.
General Tax Treatment
In most situations, personal injury settlements are not taxable because they are not considered income. Instead, they are intended to help the victim and their family pay off medical bills, pay for future medical care, and compensate for someone else’s negligence.
Most personal injury cases involve compensatory damages, which are intended to compensate the victim for the losses they incur. These losses include economic and non-economic damages. Economic damages are financial losses, such as medical expenses and property damage. Non-economic damages are more subjective losses, such as pain and suffering. Either way, compensatory damages are not taxed.
Portions of a Personal Injury Settlement That Are Taxable
Despite the general rule noted above, there are some portions of a personal injury settlement that may be taxed under state or federal law, such as:
Lost Wages
Because you would have had to pay taxes on the income you would have earned had you not been injured, you will likely need to report the amount of your award to the State of California and the Internal Revenue Service for the portion of your award designated to make up your lost wages.
Awards in Excess of Actual Losses
If you receive compensation for a loss that is in excess of the actual loss you suffered, such as receiving $5,000 more than the value of your vehicle, the IRS requires you to report this difference on your federal income tax return.
Emotional Distress
While pain and suffering damages are not generally taxable, if you received damages for emotional or mental distress, the federal government taxes this award if it is not linked to a physical injury.
Punitive Damages
Punitive damages are not compensatory. Instead, they are intended to punish the wrongdoer and deter similar conduct in the future. While they are rarely awarded in California personal injury cases, it is important to know that if you do receive these damages, you will be required to report them and any interest to the state and the IRS. You will be responsible for paying taxes on them.
Interest
Prejudgment interest is not awarded for non-economic losses, but it can be awarded for economic losses, such as for lost wages, funeral expenses, or burial costs. You will have to report interest earnings to the state and federal government.
Contact Our Personal Injury Lawyers for a Free Case Review
If you were injured due to someone else’s negligence, the legal team at Miller & Steele Law Firm can help you pursue the maximum compensation available for your claim while trying to minimize the negative impact of taxes on your award. We can help prepare settlement agreements that clearly indicate each form of damage and help you determine the tax impact of your settlement. Call us today for more information.