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Do I Have to Pay Taxes on a Workers’ Compensation Settlement?

Published November 7, 2022 by Matt Fendon Law Group | Workers' Compensation
Do I Have to Pay Taxes on a Workers’ Compensation Settlement

Workers’ compensation provides benefits to employees who suffer an injury or illness on the job. These benefits pay for medical expenses, a portion of lost wages, and certain other losses incurred due to the injury. If you’re eligible for workers’ comp, you might wonder whether you will be taxed on your benefits or settlement. The short answer is no. 

Is Workers’ Compensation Tax Deductible?

Workers’ compensation is not tax-deductible because you do not have to pay taxes on it. The Internal Revenue Service (IRS) does not consider workers’ compensation benefits or settlements as income when filing your taxes because any amount of workers’ comp you receive is generally tax-exempt.

Tax-Exempt Benefits

Workers’ compensation benefits typically cover two-thirds of your regular salary or wages. The Internal Revenue Service stipulates that any money you receive from workers’ compensation is fully exempt from taxation if paid under a workers’ compensation act or a similar statute. 

Exception to the Workers’ Compensation Tax Rule

While workers’ compensation benefits are not taxable, there is an exception. If you also receive Social Security Disability Insurance (SSDI) benefits, a portion of your workers’ compensation benefits might be reduced as an offset. 

When Does the Workers’ Compensation Offset Apply?

If you receive workers’ compensation and SSDI benefits, your SSDI benefits may be offset if the total of all benefits combined accounts for more than 80 percent of your average pre-injury earnings. This temporary decrease in SSDI benefits ensures you are not exceeding the 80-percent threshold. 

Taxable Income Thresholds: What are They?

Taxable income thresholds can be confusing. Generally, when an individual receives both workers’ compensation and Social Security benefits, their SSDI benefits are reduced accordingly. A portion of these SSDI benefits could be taxable if the individual’s annual income meets a certain threshold. An experienced attorney can review your financial situation and potentially help you minimize how much your SSDI benefits are reduced.

Other Fees to Consider for Workers’ Compensation Payments

Keep in mind that if you settle your workers’ comp claim, certain fees may be deducted from the settlement,  such as legal fees and unpaid doctor’s bills. Speaking to an attorney before settling is essential to ensure you know what could be deducted from the total amount.

Working with an attorney is also important because the insurance carrier may try to include clauses in the settlement agreement that could render it taxable income. A knowledgeable workers’ comp lawyer can review the agreement so that you keep the full and fair amount of benefits you are entitled to. 

Other Taxes Related to Workers’ Compensation

Workers’ compensation benefits are not taxable, but retirement benefits are. Any retirement benefits you collect based on your age or years of service can be taxed, even if you retire due to a work-related injury or illness. If you receive workers’ compensation benefits with interest, the interest paid to you is also taxable. If you return to work in a light-duty capacity and earn wages while also receiving disability benefits through workers’ comp, your regular wages will be taxed as income.

Consult an Arizona Workers’ Comp Attorney to Learn Your Options

If you’re struggling to navigate the workers’ comp system in Arizona, you don’t have to do it alone. Reach out to an experienced workers’ comp attorney at Matt Fendon Law Group today. Attorney Matt Fendon is a certified specialist in workers’ compensation law by the State Bar of Arizona, giving our firm the ability to deliver exceptional legal services to our clients. Call or contact us today for a free case review. 

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