Settlement Award?
Uncle Sam May be Waiting in Line

Courtesy of National Association of Tax Professionals (NATP)


National Association of Tax Professionals (NATP) Appleton, WI - It's been a long arduous process, but you have finally reached a Final Settlement Agreement in a personal injury lawsuit and received the settlement funds due to you. Besides being able to breathe a sigh of relief, pay outstanding bills, and make decisions about investing the funds, you may have just had a taxable event. Sorry, but Uncle Sam may well be standing in line for his share of the proceeds.

Just how does taxation fit into the picture? The IRS provides guidelines for the following awards:

» Physical injuries or physical sickness settlements -
If you did not previously take an itemized deduction for medical expenses related to these injuries or sickness in prior years, the award amount is not taxable and does generally not need to be reported on your Form 1040. However, if you did deduct medical expenses related to the injury, the tax benefit amount is taxable and reportable.

» Emotional distress and mental anguish -
Only amounts that exceed medical costs and that have not been previously deducted are reportable. You will need to attach a statement showing the entire settlement amount less related medical costs to the Form 1040.

» Employment discrimination or injury to reputation -
Taxable; reported on Form 1040.

  - Interest -
   Taxable as "Interest Income" on Form 1040.
  - Punitive damages -
   Taxable; reported on Form 1040. It does not matter if punitive damages are related to a physical injury or physical sickness. If they are considered punitive, they are reportable.

  - Loss of use or loss in value of property -
   Only the gain (the amount that exceeds your basis) is taxable when property settlements exceed your adjusted basis in the property. This amount is treated as a "Gain on a Capital Asset" and is reported on Schedule D, Capital Gains and Losses, of the Form 1040 for personal capital assets and on Form 4797, Sale of Business Property, for business capital assets.

Note: Unless otherwise stated, taxable amounts are reported as "Other income" on Form 1040.

If your settlement is significant, with expected taxes of $1,000 or more after subtracting credits and withholding, you may need to make estimated tax payments. IRS Publication 505, Tax Withholding and Estimated Tax and Form 1040-ES, Estimated Tax for Individuals, provide more information. The services of a tax preparer may be your best recourse in sorting out the intricacies of settlement awards.

Selecting the right tax professional will save you time, headaches, and oftentimes money. To find a professional tax preparer, look to NATP. NATP maintains a listing of professionals in your area. Members of the National Association of Tax Professionals (NATP) strive to assist taxpayers with information and knowledge. NATP is a nonprofit professional association founded in 1979 and is committed to excellence in the tax profession. In 2004, we are celebrating 25 years of service to tax professionals. Our national headquarters, located in Appleton, WI, employs 41 professionals and 25 instructors. NATP exists to serve professionals who work in all areas of tax practice and has more than 16,500 members nationwide. Members include individual practitioners, enrolled agents, certified public accountants, accountants, attorneys, and certified financial planners. Learn more at www.natptax.com.


Courtesy NATPTAX
Published TaxMama.com 7.19.04