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Personal injury settlements are not taxable. The majority of time that settlements are taxable is when the settlement is meant to replace income, like in an employment discrimination claim or lost profits claim for a business. If a portion of the settlement was meant to reimburse time lost from work than that portion could be taxable. Also, if you itemize deductions and you claimed medical expenses in previous years as an itemized deduction that were later reimbursed by the settlement then that amount would be taxable. A note on damages awarded for emotional distress. These are taxable unless the emotional distress stemmed from a physical injury. Also, punitive damages awarded as a part of the settlement are taxable as “other income”. For more information refer to IRS Publication 4345.
This question was answered by John C. Claudell at CO Tax Attorney.
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