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Most people never consider whether car accident settlements are taxable when pursuing an insurance claim or lawsuit. However, you might be shocked to discover that a portion of your car accident settlement could be taxable under state and federal laws. In this blog, our New Jersey personal injury attorneys discuss what you need to know about car accident settlements and taxable income.
What Is Included in a Car Accident Settlement in New Jersey?
A car accident settlement can include compensation for economic and non-economic damages. Economic damages reimburse and compensate you for your financial losses and expenses, including:
- The cost of your medical treatment
- Lost wages and employment benefits
- Out-of-pocket expenses
- The cost of personal and/or skilled care
- Diminished earning capacity
Car accident injuries also cause intangible losses and harm. These non-economic damages include:
- Pain and suffering
- Scarring and disfigurement
- Loss of enjoyment of life
- Emotional distress and mental anguish
- Impairments and disabilities
- Decreased quality of life
Most damages in car accident settlements are not taxable under New Jersey or federal law. However, there are exceptions.
When Is My Car Accident Settlement Taxable in New Jersey?
Generally, the compensation received for a car accident settlement is not included in taxable income. Therefore, you would not be required to pay taxes on the settlement proceeds. However, there are exceptions to this general rule.
Punitive Damages Are Considered Taxable Income
In addition to compensatory damages for your pain, suffering, and monetary losses, a jury could award punitive damages. Juries award punitive damages when the defendant (i.e., at-fault party) engages in specific types of conduct. The Internal Revenue Service (IRS) considers punitive damages taxable income. New Jersey also includes punitive damages as taxable income.
Interest on Settlements Is Taxable Income
Sometimes, a party may not pay a car accident judgment immediately after the trial. Unpaid judgments collect interest under state law. The interest accumulated on a judgment or settlement would be taxable.
Damages Based Solely on Emotional Harm
Under federal law, damages based on physical injuries or illnesses are generally not taxable, including pain and suffering caused by physical harm. However, suppose your claim is based solely on emotional distress. If so, the compensation you receive may be included as taxable income under federal tax laws.
Medical Bills Deducted for Prior Tax Years
The IRS also states that the portion of a personal injury settlement for medical bills you deducted in prior years that resulted in a tax benefit is counted as income in the year you receive the settlement. Suppose you deducted the medical bills for your car accident on your tax return for the year of the car crash. It resulted in tax benefits for you.
However, receiving a judgment for your car accident lawsuit took two years. The portion of the judgment compensating you for the medical bills you deducted could be considered taxable income.
Questions of Tax Liability for a Car Accident Settlement Can Be Confusing
The above examples are not intended to be tax advice. Many factors could impact your situation. The best way to know if your car accident settlement is taxable is to work with an experienced personal injury lawyer. Your attorney will guide you through all aspects of your case, including explaining how to handle issues related to taxable portions of your car accident settlement.
Schedule a Free Consultation With Our New Jersey Personal Injury Attorneys
Car accident settlements can be complicated. If the settlement agreement has errors or mistakes, it could cause problems for you in the future. The insurance company may try to include terms not in your best interest. Before you sign a settlement agreement, talk with our New Jersey car accident attorneys at Nagel Rice LLP. Your initial consultation is free.