If you lost a loved one due to the negligence or wrongful act of another party, you may be entitled to file a wrongful death claim and seek compensation for your losses.
You may wonder how this compensation will affect your taxes. Will you have to pay taxes on a wrongful death settlement in Illinois or to the IRS?
Wrongful death settlements are generally not taxable
Generally, settlements from wrongful death claims are not taxable, according to Internal Revenue Service Rule 1.104-1. This rule states that amounts received from wrongful death claims are not included in gross income because they are considered part of claims that result from personal injuries or physical sickness.
This means that if you receive a settlement for the economic and non-economic damages caused by the wrongful death of your loved one, you do not have to report them as income to the IRS or pay taxes on them to the federal government.
What about Illinois state taxes?
This rule applies to both Illinois state taxes and federal taxes. Illinois follows the federal tax code when it comes to wrongful death settlements, so you do not have to pay any state income tax on them either.
Are there exceptions to the non-tax rule?
Yes. There are some situations where you may have to pay taxes on some or all of your wrongful death settlement. First, if you have deducted any medical expenses or other costs related to the wrongful death from your income in previous years, you have to include the portion of the settlement that corresponds to those deductions as income and pay taxes on them. This is to prevent double benefits from the same expenses.
Second, if you receive any damages for emotional distress that are not directly caused by the physical injury or sickness that led to the wrongful death, you have to report them as income and pay taxes on them. This is because emotional distress damages are considered personal injury damages only if they stem from a physical injury or sickness.
Finally, if you receive any punitive damages as part of your wrongful death settlement, you have to report them as income and pay taxes on them. Punitive damages are awarded to punish the wrongdoer and deter similar conduct in the future, not to compensate you for your losses. Therefore, they are not considered personal injury damages and are taxable.