Are Personal Injury Settlements Taxable in Louisiana?

If you’ve been hurt in Louisiana and you’re wondering, “Are personal injury settlements taxable in Louisiana?”, the short answer is most compensation for a physical injury is not taxable. However, some parts of a settlement can be taxable.

The Louisiana personal injury lawyers at Loyd J Bourgeois Injury & Accident Lawyer (LJBLegal) understand why this question matters. After an injury, you want to know how much of your settlement you can keep and whether taxes could reduce your recovery.

Under federal tax law, damages received because of a personal physical injury or physical sickness are generally excluded from gross income. This exclusion can cover medical expenses, pain and suffering, emotional distress caused by the physical injury, and even lost wages when those wages were lost because of the physical injury. Punitive damages and interest are generally taxable.

Is Settlement Money From a Personal Injury Case Considered Income in Louisiana?

Most compensation received because of a physical injury or physical sickness is not considered taxable income under federal law. IRC Section 61 starts with a broad rule: income from any source is generally taxable unless another part of the tax code provides an exception.

For personal injury cases, an important exception appears in IRC Section 104(a)(2). It generally excludes compensatory damages received because of personal physical injuries or physical sickness. Punitive damages are generally excluded from this protection.

What matters is why you received the settlement money. The IRS looks at what each payment was intended to replace. This makes the facts of the injury claim and the terms of the settlement agreement important.

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What Parts of a Personal Injury Settlement Are Not Taxable?

If your Louisiana settlement compensates you for losses caused by a physical injury or physical sickness, much of the recovery may be excluded from federal taxable income.

• Physical injury damages: Compensation received because of a physical injury or physical sickness is generally excluded from gross income.
• Medical expenses: Compensation for medical treatment related to your physical injury is generally not taxable, although special rules can apply if you previously claimed a tax deduction for those expenses.
• Pain and suffering: Compensation for pain and suffering resulting from a physical injury is generally excluded from taxable income.
• Lost wages caused by a physical injury: Lost income can generally be excluded when the wages were lost because of the personal physical injury or physical sickness.
• Emotional distress caused by physical injury: Compensation for emotional distress attributable to a physical injury or physical sickness is generally excluded.
• Property damage: Payments for damaged property, such as repairs to a vehicle after a crash, are generally treated differently from ordinary income. Tax consequences can depend on the property’s adjusted tax basis and the amount recovered.

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What Parts of a Personal Injury Settlement Might Be Taxed in Louisiana?

Not every dollar received through a settlement receives the same tax treatment. Some payments may be taxable even when they are included in the same settlement as compensation for a physical injury.

• Punitive damages: Punitive damages are generally taxable, even when the underlying case involves a physical injury. Federal law contains a narrow exception involving certain wrongful death claims.
• Interest: Interest paid on a judgment or settlement is generally taxable.
• Emotional distress without physical injury: Compensation for emotional distress arising from a non-physical claim is generally taxable. An exception may apply to amounts used to pay qualifying medical expenses for emotional distress.
• Lost wages from a non-physical claim: Back pay or lost wages from an employment dispute, discrimination case, contract claim, or another claim not based on physical injury are generally taxable.
• Other separately negotiated payments: Money paid for obligations separate from compensation for a physical injury may receive different tax treatment. A tax professional should review these payments individually.

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Does the IRS Tax Lost Wages From a Personal Injury Settlement?

Lost wages are generally not taxable when they are recovered because of a personal physical injury or physical sickness. This is an important exception to the usual rule for wages.

For example, suppose you suffer physical injuries in a car crash and cannot work for three months. Your settlement includes compensation for the income you lost during those three months. Because those lost wages resulted from your physical injuries, the lost-wage portion can generally fall within the IRC Section 104(a)(2) exclusion.

This treatment is supported by IRS guidance. Revenue Ruling 85-97 states that when an individual receives a settlement for personal injuries suffered in an accident, the amount allocated to lost wages is also excludable from gross income. The IRS has continued to explain that compensatory damages, including lost wages, can be excluded when received because of a personal physical injury.

The result is different when lost wages come from a non-physical claim. For example, back pay from an employment discrimination or wrongful termination case may be taxable because the payment replaces taxable employment income and is not being received because of a personal physical injury.

The key question is not simply, “Does my settlement include lost wages?” Instead, ask, “Why did I lose those wages, and what claim is the settlement paying?”

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Why Does the Reason for the Settlement Payment Matter?

The IRS looks at the nature of the claim and what the settlement payment was intended to replace. Two people could each receive a settlement containing $25,000 for lost income and have different tax results.

One person may have missed work because of physical injuries suffered in a car accident. The other may receive back pay after an employment dispute with no physical injury. The first payment may qualify for the physical-injury exclusion, while the second may be taxable.

Important documents can include the original claim or lawsuit, settlement agreement, settlement checks, payment schedule, and records explaining how the settlement funds were allocated.

Does the Settlement Agreement Affect How the IRS Treats the Money?

Yes. A settlement agreement can help explain what the parties intended each payment to compensate.

For example, an agreement might allocate compensation among medical expenses, lost earnings caused by physical injuries, pain and suffering, property damage, interest, and other damages. Clear language can provide useful evidence of why the money was paid.

However, simply putting a label on a payment does not automatically control its tax treatment. The allocation should match the facts and substance of the claim. If an agreement does not explain what the payments represent, the IRS may examine the underlying claim and the intent of the person or company making the payment.

How Do You Report Taxable Personal Injury Settlement Money?

If part of your settlement is taxable, you may need to report it on your federal income tax return. How it is reported depends on the type of payment.

You may also receive a Form 1099 or another tax form connected with the settlement. Receiving or not receiving a tax form does not, by itself, decide whether settlement proceeds are taxable.

The IRS provides more information in Publication 4345, Settlements: Taxability. Because tax treatment depends on the facts of the case, consider having a CPA or other qualified tax professional review your settlement agreement before you file your return.

What Should You Do After Receiving a Personal Injury Settlement?

A few steps can help you prepare for tax season and protect your records after your case ends.

1. Keep your settlement documents: Save the settlement agreement, closing statement, payment records, medical records, and documents showing what each part of the settlement covers.
2. Identify any potentially taxable amounts: Pay special attention to punitive damages, interest, and compensation arising from claims that do not involve physical injury or physical sickness.
3. Do not assume lost wages are taxable: If your lost income resulted from a physical injury, it may qualify for the same federal tax exclusion as other compensatory physical-injury damages.
4. Talk with a tax professional: A CPA or qualified tax advisor can review your settlement and explain how the federal tax rules apply to your situation.
5. Talk with LJB Legal about your injury claim: The attorneys at LJB Legal can document your injuries and losses and work to build a settlement or court case that accurately reflects the harm you suffered.

Can You Avoid Taxes on a Personal Injury Settlement?

You cannot make taxable settlement money tax-free simply by giving it a different name. However, accurately documenting what your settlement compensates you for can be important.

A settlement arising from a physical injury may include several types of damages. The agreement should reflect the actual claims and losses involved in the case. Clear records can also make it easier for your tax professional to determine which portions may be excluded from income and which may need to be reported.

The attorneys at LJBLegal focus on building personal injury claims around the real losses their clients have suffered. For tax advice about settlement proceeds, clients should speak with a qualified tax professional.

Will You Owe Taxes on Your Louisiana Personal Injury Settlement?

For many Louisiana injury victims, most compensatory damages received because of a physical injury or physical sickness are not subject to federal income tax. This can include compensation for medical expenses, pain and suffering, emotional distress caused by the physical injury, and lost wages caused by the physical injury.

Punitive damages and interest are generally taxable. Compensation from claims that do not involve physical injury can also receive different tax treatment.

If you’re like most of us, you’ve never hired a lawyer before. And that can be a little scary. The attorneys at LJBLegal can explain the injury claim process, document what the accident has cost you, and build a case aimed at recovering fair compensation. Many cases settle without a trial. If your case does need to go to court, you want a legal team prepared to fight for the full value of your losses.

If you were injured in Louisiana and have questions about your potential personal injury settlement, call LJB Legal at 985-240-9773.

Note: This article provides general information and is not tax or legal advice for a specific situation. Tax rules can change, and the tax treatment of a settlement depends on the facts of the claim. Speak with a qualified tax professional about your tax obligations and with LJB Legal about your Louisiana personal injury claim.