This tax exemption applies whether you settle or win at trial. However, many settlement types are taxable, including emotional distress settlements without physical injury origins; employment discrimination, wrongful termination, or harassment claims; defamation or reputation damage settlements; breach of contract claims; and lost wages unrelated to physical injuries.
Punitive damages always face taxation regardless of underlying claim types, as they punish wrongdoers rather than compensate for losses. Interest earned on settlement amounts is taxable income. The portion of settlements representing attorney fees creates tax complications; you’re taxed on gross settlement amounts even though attorneys receive their fees directly, with limited ability to deduct these fees depending on claim types.
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561-689-8180Post-2017 tax law changes eliminated many legal fee deductions except for employment and whistleblower claims. Structured settlements spreading payments over time may reduce annual tax burdens while maintaining tax-free status for qualifying physical injury settlements.
Settlement agreements should specify allocations between taxable and non-taxable components, though the IRS can challenge unreasonable allocations. Consult tax professionals before finalizing settlements to understand tax implications, plan for obligations, and structure agreements tax-efficiently. Proper tax planning prevents surprise obligations and maximizes net recovery after taxes.
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