If you just settled your case, you might worry about losing a large portion of your check to income tax. Fortunately, in most cases, neither the IRS nor the state of Louisiana taxes personal injury settlements. Our experienced Shreveport personal injury lawyers at Rice & Kendig Injury Lawyers field this question after almost every settlement. Here's the short answer, plus exactly where Louisiana law adds a few exceptions.
Quick Answer
Money you receive for a physical injury is not taxable, at the federal or Louisiana state level. A few exceptions apply, and they're covered in detail below.
What Personal Injury Settlements Are Taxable and What Are Not
Most personal injury settlements are a mix of taxable and non-taxable money in the same check. Here's how the major categories usually break down before we get into the specifics of each one:
| Not Taxable | Taxable |
|---|---|
| Medical bills for the injury | Punitive damages |
| Lost wages tied to the injury | Interest that accrued on the settlement |
| Pain and suffering (physical injury) | Emotional distress claims with no physical injury |
| Property damage compensation | Medical expenses already deducted on a prior return |
The left column makes up the bulk of a typical Louisiana personal injury settlement. The right column covers narrower situations, and the sections below walk through each one.
Why Personal Injury Settlements Are Tax-Free in Louisiana
IRC Section 104(a)(2) is the federal law behind this rule. It excludes from gross income any damages you receive on account of personal physical injuries or physical sickness, whether your case settled or went to trial. Without this exception, Section 61 of the tax code would treat the money as ordinary taxable income, the same as a paycheck. Congress narrowed the exclusion in 1996 to specifically require a physical injury, which is why the word "physical" carries so much weight in how a settlement gets categorized.
What Counts as Protected Compensation
According to the IRS, the exclusion protects:
- Medical expenses for treating the injury.
- Lost wages you would have earned if the injury hadn't happened.
- Pain and suffering connected to the physical injury.
- Property damage compensation, such as vehicle repair costs.
If You Already Deducted Medical Expenses
There's one catch worth planning around. If you deducted medical expenses on a prior year's tax return and your settlement later reimburses those same expenses, that portion becomes taxable up to the amount you already deducted. Your attorney and your accountant should coordinate on this before your case closes, since it's easier to account for during negotiation than to untangle at tax time.
What Parts of a Settlement Get Taxed
Three parts of a settlement fall outside the physical injury exclusion, and each is easy to spot once you know what to look for.
- Punitive damages. These punish the defendant rather than compensate you, so the IRS taxes them except in one narrow wrongful death situation, covered below.
- Interest on your settlement. If your case took time to resolve and interest accrued on the award, that interest is taxable as ordinary income even though the settlement itself isn't.
- Non-physical claims. Money for emotional distress, defamation, or discrimination that isn't connected to a physical injury or sickness is taxable.
A settlement agreement that spells out exactly what each dollar compensates makes tax season easier. Ask your attorney to have this documented in writing before you sign.
Example: Say you settle a car accident claim for $150,000, made up of $40,000 in medical bills, $20,000 in lost wages, $85,000 for pain and suffering, and $5,000 in interest that built up while the insurance company dragged out negotiations. The first three categories, $145,000 in total, are not taxable. Only the $5,000 in interest counts as income for that year.
Lump Sum vs. Structured Settlement: Same Tax Rule
Some Louisiana settlements pay out as a single lump sum, while others are structured to pay over months or years. The federal exclusion applies to both. The Internal Revenue Code specifically covers damages received "whether as lump sums or as periodic payments," so spreading out your payments doesn't create a tax bill a lump sum would have avoided.
If your attorney or the insurance company proposes a structured settlement, the choice should come down to your financial needs and how you want to manage the money, not a fear that one option is taxed differently than the other.
When Louisiana Allows Punitive Damages
Louisiana treats punitive damages differently than many other states. Courts here only award them when a specific statute allows it, and ordinary negligence claims don't qualify on their own.
1. The Drunk Driving Exception
La. Civil Code art. 2315.4 permits exemplary damages when a defendant's intoxication while driving caused the injury through a wanton or reckless disregard for others. A short list of other statutes covers separate situations, such as certain sexual abuse, hazing cases, and domestic violence injuries. Standard car accident and truck accident claims don't fall under any of these statutes, so most Louisiana personal injury settlements never include a punitive damages component at all.
2. The Wrongful Death Exception
Federal law carves out a narrow exception for punitive damages in wrongful death cases, but only in states where the wrongful death statute allows exclusively punitive damages to be awarded. Louisiana's wrongful death statute, La. Civil Code art. 2315.2, permits standard compensatory damages, so this narrow federal exception is unlikely to apply to a Louisiana wrongful death settlement.
How Louisiana State Taxes Treat Your Settlement
Louisiana calculates your state income tax starting from your federal adjusted gross income, as defined under La. R.S. 47:293. Since money excluded from federal gross income under IRC Section 104(a)(2) never enters your federal AGI, it doesn't carry over to your Louisiana return either.
A settlement that's tax-free federally stays tax-free on your Louisiana return too, and the exceptions run the same direction in both places. Punitive damages, settlement interest, and non-physical injury claims that are taxable federally will also show up on your Louisiana taxes.
Talk to a Louisiana Personal Injury Lawyer Before You Settle
Tax treatment depends on exactly how your personal injury settlement or verdict allocates money among your claims, and getting that allocation right happens during negotiation, not after you cash the check.
Rice & Kendig Injury Lawyers has represented injured clients throughout Shreveport and Bossier City for decades, and we work with clients to structure settlement agreements that hold up at tax time as well as they do at the negotiating table. Contact us today for a free consultation.
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