The Settlement Alliance

Does Settlement Money Have to Be Reported on Taxes?

Does Settlement Money Have to Be Reported on Taxes?

Jan 26, 2017

Tax season officially started this week, and with that comes many questions—especially if you received settlement proceeds in 2016. By law, certain types of settlement proceeds must be reported as taxable income, while others do not. Here is what you need to know when you file your 2016 tax return:

Personal Injury Settlements

The good news is, if you received a settlement due to a physical injury or illness, your settlement most likely does not count as taxable income. However, there are a few caveats:

  1. If you itemized deductions for medical expenses related to the injury/illness in prior years, you have to include as “Other Income” the portion of the settlement that is for medical expenses that you previously deducted (see the “Recoveries” section of IRS Publication 525 for assistance with determining the proper amount to report).
  2. If you invested your settlement money, any interest growth on the funds counts as taxable and must be reported as “Interest Income”.
  3. If you received money for punitive damages—even if it came from a personal injury case—that money is taxable and should be reported as “Other Income".

Non-Personal Injury Settlements

If you received money in a non-personal injury settlement (for instance, an employment discrimination case), then the settlement proceeds are subject to income tax; additionally, any portion of the proceeds intended to cover lost wages will need to be reported as “Wages, salaries, tips, etc.” and will be subject to the social security wage base and social security and Medicare tax rates that are in effect in the year the proceeds were paid. Again, if you invest your settlement funds, any interest should be reported as “Interest Income”.

Structured Settlements and Tax Advantages

If your settlement has not been finalized, you may still have time to take advantage of a structured settlement annuity. Not only does a structured settlement provide a vehicle to help ensure that your settlement proceeds will be there for as long as you need them, but it also offers tax advantages for both personal injury and non-personal injury settlements:

  • For personal injury settlements: As we previously discussed, settlement proceeds from a personal injury settlement are typically 100% income tax-free. But unlike traditional investment vehicles, any interest growth on a structured settlement is also tax-free.
  • For non-personal injury settlements: Although the settlement proceeds are taxable in these types of cases, if the proceeds are placed in a structured settlement annuity, then you are only liable for taxes on the income that you receive in a given year. For example, if you are awarded a settlement of $350,000, but place it in a structured settlement annuity that will pay out $15,000 a year, your tax liability for the settlement proceeds will be based on the $15,000/year payments. That could potentially save you from being bumped into a higher tax bracket, and could help preserve more of the settlement proceeds.

Contact Us Today

If you have questions about your settlement, contact our experienced settlement planning team today. The earlier you create a plan for your settlement proceeds, the better chance you have at preserving them.

Disclaimer: The Settlement Alliance does not provide tax advice. For more information about how a settlement will affect your taxes, please contact your tax professional or visit the IRS website at www.irs.gov.

We are proud to partner with the highest rated structured settlement providers in the industry:

  • American general Life Companies
  • Berkshire Hathaway Structured Settlements
  • Liberty Life Assurance Company of Boston
  • MetLife
  • Mutual of Omaha
  • New York Life
  • Pacific Life
  • Prudential