Generally not. With very limited exceptions, proceeds from a personal injury or medical malpractice action are not taxable.
In both New York and Pennsylvania where we commonly represent injury and malpractice victims, compensation for your injuries is tax free. It’s bad enough being injured, and then having to bring a lawsuit to obtain proper compensation and payments for your disabilities. Can you imagine the impact it would have if you then had to pay income taxes on those monies? Luckily, the government realized that injury settlements are not earned income. Rather, they compensate an injured victim for the pain, suffering, and disabilities they suffered at the hands of another’s carelessness.
Just because the proceeds are not taxable, does not mean that they are not reportable. IRS rules require you to report the receipt of personal injury proceeds even though than money is not taxable. Upon settlement of your case, you will receive notification from the insurance company that paid you compensation with documentation about your settlement. You need to give that letter to your accountant or tax preparer so they can properly report the proceeds on your tax return. When you invest those monies into taxable investments, then any profit or gain you achieve is obviously taxable.
As you might expect, there are exceptions to every general rule. While most proceeds are not taxable, under certain circumstances, proceeds are taxable. For instance, in a death case, an award for pain and suffering is generally taxable to the estate. In some instances there are legal ways to allocate the monies to the wrongful death cause of action (which is not taxable to the estate) rather than the pain and suffering cause of action (which is taxable to the estate).
As you can tell from reading this, the whole issue of taxation can get ticklish but any experienced injury or malpractice lawyer should be able to help you navigate these issues.
We hope you found this information helpful but if you have remaining questions that have not been answered on our website, feel free to E-mail us your question here