Have you recently recovered a car accident settlement or award for damages you incurred in an accident? As Los Angeles car accident lawyers, we often get this question from our clients: “Do I have to pay taxes on my car accident settlement?” We discuss car accident settlements and whether they are taxable income to the Internal Revenue Service (IRS) and California Franchise Tax Board below.
Is a Car Accident Settlement Taxable Income to the IRS?
There are three types of damages that you may be able to recover in a car accident insurance settlement or a personal injury lawsuit. Two types of damages are compensatory damages or damages meant to compensate an accident victim for medical expenses. Compensatory damages include economic and noneconomic damages. The other type of damages is punitive damages, which are intended to punish the defendant.
The short answer to whether you must pay taxes on your auto accident insurance settlement or personal injury is that it depends. United States and California tax laws do not explicitly state that you must pay taxes on your entire settlement. Instead, tax law dictates that taxation depends on the compensation you recover for each type of damage.
Economic Damages in Car Accident Insurance Settlements
Economic damages, also known as special or monetary damages, are the most common damages you can recover in a personal injury case. They are meant to reimburse you for out-of-pocket expenses and financial losses incurred due to the accident. Because of this, they are quantifiable and more straightforward to calculate than other types of damages. In addition, economic damages are meant to compensate you for your future financial losses.
Examples of special damages in an auto accident settlement include, but are not limited to:
- Medical bills
- Future medical expenses
- Lost wages
- Lost future income if you are unable to return to work due to your injuries
- Property damages
Medical bills can encompass an array of medical expenses, including, but not limited to:
- Ambulance costs
- Emergency room bills
- Hospital bills
- Surgery costs
- Laboratory costs
- Prescription medication costs
- Rehabilitation costs
- Medical equipment costs
Are Economic Damages Taxable?
The IRS tax code does not consider any compensatory part of a personal injury settlement or award as taxable income. Because economic damages intend to reimburse you for your financial losses incurred in an accident, most economic damages are not considered part of your gross income and are not taxable.
When you receive compensation for your medical expenses and bills, you recover the money you lost after the accident. You are not gaining money you did not have. Because of this, your compensation for your current medical expenses and future medical expenses is generally not taxed.
However, it is important to remember that there are exceptions to most rules in the IRS and California tax codes. There may be situations where compensation for medical expenses is taxable.
Like your medical bills, compensation for repairing your SUVs and vehicles, property damage, or totaling your vehicle is generally not taxable. However, there may be exceptions. For example, if you receive more money than your property is worth, you must report the difference to the IRS.
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Unlike other compensatory damages, the compensation you receive for lost wages and lost future income is taxable. This compensation is meant to replace the income you would have earned from working if not for your accident.
If you had been able to work, you would have paid taxes on your earnings. Because of this, the compensation you recover for lost income is considered part of your gross income by the IRS and California Franchise Tax Board. Therefore, you will have to pay taxes on any money you receive for lost wages in your car accident insurance settlement.
Noneconomic Damages in a Car Accident Settlement
Car accidents can result in catastrophic traumatic injuries and wrongful death. They can drastically change how accident victims and their family members live. Injuries can inhibit someone from participating in or enjoying the activities and hobbies they once enjoyed and change how someone approaches every aspect of their life. They deserve to be compensated for these losses.
Noneconomic damages, also known as general or non-monetary damages, are meant to compensate personal injury victims for their non-financial losses. Because they are intangible losses, they are more difficult to calculate than economic damages.
Examples of non-economic damages that individuals may be able to recover in car accident settlements include, but are not limited to:
- Physical pain
- Emotional distress
- Loss of enjoyment of life
- Post-traumatic stress disorder (PTSD)
Are Non-Economic Damages Capped in California?
California does not impose caps on noneconomic damages in most civil cases. For example, there are no caps on how much you can recover in non-monetary damages in your auto accident case.
However, there is one type of personal injury case in California that does have non-economic damage caps. There are caps on how much you can recover in medical malpractice cases.
Are Non-Economic Damages Taxable?
Noneconomic damages fall into the category of compensatory damages. They intend to compensate an accident victim for damages stemming from a physical injury, such as physical pain and mental anguish.
The IRS tax code does not consider the compensatory parts of auto accident insurance settlements as taxable. Therefore, noneconomic damages are not taxed.
Though very rare for a personal injury case, you may recover compensation for emotional damages that were not a result of your physical injuries. If this is the case, then you may have to pay taxes on this money.
Punitive Damages in a Car Accident Settlement
Punitive damages are rare in a car accident case. However, they intend to punish the defendant for significantly negligent behavior or malice. Punitive damages are also meant to deter the defendant from further bad behavior and to deter others from following the same harmful behavior.
Are Punitive Damages Taxable?
Punitive damages do not reimburse you for out-of-pocket expenses or non-monetary losses. If you were awarded punitive damages in your case, it was a punishment to the defendant for egregious negligence.
Because you would not have had this compensation otherwise, the Internal Revenue Service considers punitive damages taxable. According to the IRS, you should report punitive damages as “Other Income.”
Are You Required to Claim a Personal Injury Settlement on Your Federal or State Taxes?
Depending on the breakdown of your personal injury settlement or award, you may have to claim a portion of it on your taxes. However, we recommend speaking with a tax professional for your car accident settlement taxes. A tax professional can ensure you comply with all California and federal tax laws that may apply to your car accident settlement.
Schedule a Free Consultation With Our Los Angeles Car Accident Lawyers
The team at Steers & Associates has significant experience and success representing Southern California accident victims in car accident cases. We have recovered millions of dollars on behalf of our clients in car accident settlements, awards, and other personal injury cases. You can read about some of our past clients’ experiences with our firm here.
Have you suffered severe injuries in an accident? You may recover compensation for damages through a personal injury claim or lawsuit. These losses may include medical bills, future medical expenses, lost wages, lost future income, property damage, and pain and suffering damages. We recommend discussing your potential legal options with our firm’s experienced personal injury lawyer.
Our team is happy to answer your questions and review your case during a free consultation. We will help you understand your best legal options and determine whether we can help you with your case. Fill out our online contact form or call our office at (800) 824-5416 to request a consultation with us today.
Allen Vaysberg practices personal injury law and works tirelessly to defeat the tactics of insurance companies and large corporations who try to deny justice and fair compensation to injured people.