If you receive these benefits, it’s helpful to know if this income is taxable. This knowledge lets you plan for tax time and your recovery from injury or illness. In addition to using this resource, always check with your tax preparer to make sure you’re complying with all tax laws.
Table of Contents
- Is Workers’ Compensation Insurance Taxable?
- When Is Workers’ Compensation Insurance Taxable?
- What Is the Social Security Disability Offset?
- When Does the Offset Apply?
- Are There Other Tax Issues For People Receiving Workers’ Compensation?
- Are There Any Exemptions to Workers’ Compensation Taxes?
- Key Takeaways About Workers’ Compensation Insurance and Taxes
Is Workers’ Compensation Insurance Taxable?
Workers’ compensation insurance is not taxable in the majority of cases. Any compensation you receive for work-related sickness or injury is fully exempt from tax if it’s paid under a workers’ compensation act or similar statute. Similarly, benefits paid to surviving family members after a worker’s death are not taxable. However, if you also receive government benefits, your workers’ compensation may be taxable.
When Is Workers’ Compensation Insurance Taxable?
You may be eligible to receive benefits through Social Security disability income or Supplemental Security Income while also receiving workers’ compensation insurance. If you receive any government benefits, you may need to pay income tax on a portion of your workers’ compensation insurance due to the social security disability offset. Your tax preparer or insurance company representative should be able to answer your questions about how workers’ compensation functions while you’re receiving government benefits.
What Is the Social Security Disability Offset?
When you receive SSDI or SSI as well as workers’ compensation insurance, your income cannot go above a certain threshold. The Social Security Administration may reduce your benefits to ensure your total income from these sources isn’t too high. This is called the Social Security disability offset.
If part of your workers’ compensation insurance reduces your SSDI, then that part becomes taxable. For example, if your SSDI is reduced by $200, then $200 of workers’ compensation is taxable. This is because that portion is treated as SSDI, and Social Security benefits can be taxed when they reach a certain level. If you had received that income through SSDI rather than workers’ compensation, it would have been taxed.
Some states use a reverse offset. In these states, your workers’ compensation payment is reduced instead of your SSDI. This means your compensation isn’t taxed, although you must still pay any relevant taxes on your Social Security income.
When Does the Offset Apply?
The offset applies when the combined amount of your workers’ compensation and disability benefits exceed 80% of your average current earnings. The SSA defines this as the largest of:
- The average monthly wage that was used to calculate your benefits
- The average, or one-sixtieth, of your total wages for your highest-earning 5 consecutive years
- The average, or one-twelfth, of your total wages for the highest-earning year from the last 5 years
Are There Other Tax Issues For People Receiving Workers’ Compensation?
Although workers’ compensation isn’t generally taxable, any other income you receive is subject to income tax. The following scenarios may impact your taxes.
Returning to Work
If you return to work on light duties or in a different role, you may still receive a portion of your workers’ compensation benefits. In this case, the wages you earn are taxable, though your compensation isn’t.
You may receive interest with your workers’ compensation payments, especially if there’s a long delay in approving the claim. Any income you receive from interest is taxable.
Retirement benefits received due to your age, years of service, or contributions are taxable. This is the case even if you retire due to your illness or injury.
Are There Any Exemptions to Workers’ Compensation Taxes?
There aren’t any exemptions to taxes caused by the Social Security disability offset; however, you can minimize taxes. A workers’ compensation attorney can arrange your settlement to reduce the offset, which also decreases your tax burden. Generally, this is done by treating a lump-sum payment as if it was spread out over your expected lifetime.
Key Takeaways About Workers’ Compensation Insurance and Taxes
- You don’t usually need to pay taxes on workers’ compensation insurance.
- If you receive Social Security benefits, a portion of workers’ comp may be taxable.
- A workers’ compensation attorney can help you minimize taxes on your benefits.
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