Are Personal Injury Settlements Taxable In Tennessee? 2024 Guide.

After a personal injury settlement or when contemplating a personal injury claim, a common question our Tennessee personal injury lawyers assist with pertains to the potential tax consequences associated with personal injury settlements.

Understanding tax implications is important after receiving settlement funds from a personal injury claim. Fortunately, in most cases, proceeds from such settlements are not taxable by either the state of Tennessee or the federal government. However, exceptions may apply based on factors such as the types of damages recovered and the settlement structure determined by your personal injury attorney.

In this guide, we’ll review what is taxable and what is not taxable from a personal injury settlement in Tennessee.

Types of personal injury settlement damages a victim can recover in Tennessee

To understand potential tax implications after a personal injury settlement, let’s first explore the types of damages a personal injury victim can pursue in Tennessee.

In Tennessee, individuals injured by a negligent party can seek compensation for personal injury damages. Damages represent the harm or loss caused by the negligent party and are awarded as monetary compensation. Essentially, the settlement funds obtained by the victim after a successful claim represent the mutually agreed-upon financial amount assigned to the damages to resolve the dispute. Once the settlement amount is agreed upon, the claim is settled.

Victims of negligence in Tennessee can recover damages categorized into two main groups: economic damages and non-economic damages. These damages, also known as compensatory damages, are aimed at “making the plaintiff whole again,” seeking to restore the victim to their pre-injury condition before the defendant’s actions caused harm.

Economic Damages

These financial losses are quantifiable. They are financial in nature and can include:

• Lost wages
• Medical expenses (including future medical expenses related to the injury)
• Property damage
• Reduced earning capacity

Each of these items is assigned a specific dollar amount, and the plaintiff can provide direct evidence to substantiate the expense or loss.

Non-Economic Damages

Non-economic damages cannot be easily quantified in monetary terms, as they relate to the emotional, psychological, and physical suffering endured by a victim as a result of someone else’s negligence. These damages encompass:

• Pain and suffering
• Emotional distress
• Scarring or disfigurement
• Loss of enjoyment of life

As you can tell, it’s not always easy to determine non-economic damages. That’s why having an experienced personal injury lawyer on your side can make all the difference in getting a fair outcome.

Punitive damages

Punitive damages, also known as exemplary damages, are typically decided and granted during a trial rather than as part of a settlement agreement. Unlike compensatory damages, punitive damages are not intended to compensate the victim; instead, their primary purpose is to penalize the defendant for reckless conduct and discourage them from repeating such behavior in the future.

Now that you’re familiar with the types of damages available in a personal injury settlement in Tennessee let’s discuss taxation.

Why most personal injury settlements in Tennessee are not taxable

The reason most aspects of personal injury settlements aren’t subject to taxes is quite simple: settlements aren’t classified as income.

The tax system is designed so you pay taxes on gains, like capital gains from selling assets for a profit, or on ordinary income, such as salaries and wages, subject to federal and Tennessee state taxes. As previously mentioned, compensatory damages from a personal injury settlement aim to compensate you for a loss, not to generate income.

Therefore, these payments are considered as “making you whole” or offsetting the loss caused by the negligent party rather than income. Since personal injury settlements aren’t treated as gains, they’re generally exempt from Tennessee state and federal taxes.

Personal injury settlements that are not taxable

Under IRS code “26 USC 104: Compensation for Injuries or Sickness,” non-punitive damages obtained in personal injury settlements are exempt from gross income. This exemption applies regardless of whether the damages are received as a lump sum or in staged settlement payments spread over time.

Non-taxable damages recovered in a personal injury settlement include:

• Physical injuries or physical sickness
• Emotional distress or mental anguish
• Medical expenses and medical bills
• Pain and suffering
• Property damage

Let’s explore each of these aspects in detail to ensure you have a clear understanding of their tax implications and any exceptions that may apply based on your individual circumstances.

Personal physical injuries or physical sickness

If you receive a settlement for personal physical injuries or physical sickness, which are defined as “observable, bodily harm,” the entire amount is typically non-taxable, provided you didn’t previously deduct medical expenses related to the injury or sickness on your tax returns.

However, if you did claim a tax deduction for these medical expenses in prior years, the amount you deducted would be taxable. For instance, let’s say you were injured in a car accident in 2020 and claimed medical deductions on your tax returns each year thereafter. If your Nashville car accident lawyer secures a settlement for you in 2024, you will be required to pay taxes on the previously deducted medical expenses from the preceding three years.

This principle applies to most case types and injury settlements handled by a Nashville personal injury lawyer at our firm, not just car accident cases.

Emotional distress or mental anguish

The compensation received for emotional distress or mental anguish is treated similarly to settlements for physical injuries and is not considered taxable income provided it’s directly related to the physical injury or sickness.

However, if emotional distress or mental anguish is unrelated to a physical injury or sickness, such as in a defamation case where false statements cause emotional harm but no physical injury, any monetary damages awarded for emotional distress in a legal settlement or judgment would be considered taxable income.

Medical expenses and medical bills

Compensation received for medical expenses is typically not taxable, encompassing past, present, and future medical bills related to the injury. These expenses may include emergency medical bills, doctor visits, medical devices, prescriptions, surgeries, lab work, or physical therapy, among others.

However, as noted earlier, if you previously deducted these expenses from your taxes, any compensation you receive may be taxable up to the amount of deductions you claimed.

Pain and suffering

Compensation for pain and suffering in a personal injury settlement is typically non-taxable both in Tennessee and at the federal level. The tax-exempt status of pain and suffering in Tennessee is particularly advantageous, especially considering that the awarded amounts can be very significant.

Property damage

If you receive a settlement for the decrease in your property’s value, and the settlement amount is less than the adjusted basis of your property (which includes the original cost plus any improvements or minus depreciation), it is not taxable. Additionally, you typically do not need to report such settlements on your tax return because they are non-taxable.

For instance, let’s say you purchased a car for $15,000, and it sustains damages in a car wreck. Post-accident, you spend $2,000 on repairs to restore its condition. The adjusted basis of your car is now $17,000 ($15,000 + $2,000). If you receive a settlement for the decrease in the car’s value due to the accident, let’s say $12,000, since this amount is less than the adjusted basis ($17,000), it is not taxable.

Personal injury settlements that are taxed in Tennessee

Certain portions of your personal injury settlement may be subject to taxation in Tennessee and at the federal level.

What is taxable in a personal injury settlement can include:

• Lost wages and future lost wages
• Punitive damages
• Interest on a delayed personal injury settlement payment

Lost income

Compensation for lost wages in a personal injury settlement is taxable because it serves as a replacement for the income you would have earned if you hadn’t been injured. Similar to regular wages, you will need to pay taxes for lost income from your settlement amount. Since lost wages are categorized as economic damages, their calculation is typically straightforward and doesn’t involve much interpretation.

Punitive damages

Punitive damages are awarded to deter gross negligence, flagrant disregard for public safety, or intentional misconduct resulting in personal injury. When a judge orders punitive damages, it’s meant to penalize the defendant rather than compensate the victim. Because of this, punitive damages are usually subject to taxation and should be reported as “other income” on your tax return.

Interest on personal injury settlement

Tennessee law does not permit the recovery of interest in personal injury or wrongful death lawsuits.

In other states, interest may be taxable, as in Kentucky tax law for personal injury settlements.

How do I reduce personal injury settlement taxes?

A Tennessee personal injury attorney can assist in mitigating the tax consequences of a personal injury settlement through various strategies:

• Strategically allocating the settlement funds into taxable and non-taxable categories ensures you only pay taxes on the required portion.
• Structuring the settlement to provide a gradual income stream over time, rather than a single lump sum payment, can be advised by your personal injury lawyer.
• For settlements awarded to minors, an experienced injury law firm can guide parents in understanding the advantages of long-term structured annuities, safeguarding the funds for the future.

A Tennessee personal injury lawyer can get you the settlement you deserve

Tennessee injury lawyers can help you recover damages in personal injury cases and provide clarity on tax implications. By accurately categorizing your compensation, they can also minimize tax liabilities.

Since most personal injury settlements are non-taxable, consulting with an experienced personal injury attorney before finalizing any settlement with the insurance company is crucial for maximizing your recovery.

If you’ve been injured, call us today for a free consultation.

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