The general answer is no, workers compensation benefits and settlements are not taxable. They are considered non-taxable income much like other disability benefits like those from Employment Development Department EDD (in California).
However, there are exceptions to this general rule that you should know - and go over with your attorney and tax professional. Here are some of the exeptions to consider:
Some of your workers compensation benefits can be taxed if you also receive social security benefits (ie supplemental income or disability income) and part of those benefits have been offset by your work comp insurance benefits. In California - if you’re receiving workers comp and these benefits (Social Security Disability Insurance (SSDI) or Supplemental Security Income (SSI)), and the combined benefits surpass 80% of your average current of pre-injury/disability earnings, the SSDI benefits will be offset/reduced. Basically benefits offset any form of income that exceeds this certain cap. However, Social Security retirement benefits are NOT affected by the reduction.
In addition, work comp benefits may be taxed if those came from an act of discrimination. This is under California Labor Code 132a claims.
If you receive workers compensation benefits and Social Security disability benefits, please make sure to go over the details with a work comp attorney and tax professional. Your work comp attorney can include language in your settlement to minimizes workers compensation offset as well as potential taxes. We do this with specific language that the lump sum is to be considered as if it is spread out over your entire life. You still receive a lump sum, but on the actuarial tables the lump sum is considered to cover your expected lifespan. The attorney makes sure that the proper rate and documentation are included in your settlement to protect your interests.
As a final note, any return to work wages are taxed as usual. In addition, an interest earned (for example on late payments from the insurance carrier) on benefits is also taxable.
Make sure you use a knowledgable workers compensation attorney like those at Injury Compensation Law PC to assess and handle these kind of issues. We've done many of these settlements from both sides and know all the tricks and experts to help you maximize your benefits and minimize your tax burden.
