Getting a personal injury settlement in Texas can be a big relief after an accident. But a lot of people worry about whether they’ll have to pay taxes on it and how much money they’ll actually take home. Knowing how these settlements are taxed is important so you can be ready for any financial responsibilities that might come with the money.
How Does a Personal Injury Settlement Work?
A personal injury settlement is an agreement between the person who was hurt and the person or company responsible for the injury. Instead of going to court, both sides agree on an amount of money to cover damages such as:
- Medical bills
- Lost wages
- Pain and suffering
Are Personal Injury Settlements Subject to Federal Taxes?
When people get a personal injury settlement, they often wonder if they’ll need to pay federal taxes on the money they receive. It’s important to know which parts of the settlement are taxable and which aren’t so you can manage your finances after an injury.
Non-Taxable Compensation
According to IRC Section Code 104, certain types of compensation in a personal injury settlement are considered non-taxable:
- Medical expenses: If your settlement includes money to pay for medical bills related to your injury, you usually don’t have to pay taxes on that amount. This covers hospital stays, surgeries, therapy, and any other necessary treatments you need.
- Lost wages: Compensation for lost wages due to your inability to work while recovering from your injury is also non-taxable. This is meant to replace the income you missed during your recovery period.
- Emotional distress: Generally, if the emotional distress is directly tied to a physical injury, the compensation for it is considered non-taxable.
Taxable Compensation
While many parts of a personal injury settlement are not taxed, certain types of compensation are subject to federal taxes. These include:
- Punitive damages: If your settlement includes money awarded to punish the defendant for particularly harmful behavior, this amount is taxable. These damages don’t relate to your actual losses, which is why they are subject to federal taxes.
- Emotional distress not linked to physical injury: If you get money for emotional distress that isn’t connected to a physical injury, you will have to pay taxes on that amount. For instance, if you went through emotional pain from a situation that didn’t involve a physical injury, that compensation may be taxable.
- Interest on settlements: If your settlement earns interest while you’re waiting to receive it, that interest is taxable. This means any extra money that builds up during that time will be added to your taxable income.
Is a Personal Injury Settlement Taxable in Texas?
Texas doesn’t have a state income tax, so you won’t have to pay any state taxes on your personal injury settlement. In most cases, money for medical bills, lost wages, and pain and suffering from a physical injury aren’t taxed at the federal level either. However, some parts of the settlement, such as punitive damages or interest earned before you get the money, are taxable federally.
Tips for Managing the Tax Impact of Settlements
Navigating the tax implications of a personal injury settlement can be tricky. To make sure you’re not caught off guard by any unexpected tax obligations, it’s important to plan ahead. Here are some practical tips for managing the tax impact of your settlement:
- Consult a personal injury lawyer in Abilene before accepting a settlement to fully understand which parts of your compensation may be taxed.
- Set aside funds for taxable portions to make sure to set aside enough money to cover those taxes.
- Keep accurate records of your settlement accrues interest before you receive it, as this interest will be subject to taxes.
- Take time to ensure the offer compensates you fairly. Rushing to settle might leave you with a lower amount after taxes.
- Maintain organized records of all aspects of your settlement, including any expenses or taxable portions. This can help make tax filing easier.
Conclusion
Handling the tax side of personal injury settlements can be tricky. By knowing what taxes you might owe and getting help from a tax expert, you can make smart choices to protect your money. Planning ahead can help keep your recovery safe and make sure you’re ready for any taxes that come up later.
Featured Photo by RDNE Stock project
