When Are Personal Injury Compensation Payments Taxable?
We set out the different elements that make up a personal injury claim; answer the question “are compensation payments taxable” for pain and suffering and lost income awards; discusses how income and capital gains following receipt of your compensation settlement are treated differently than the original compensation payment and explain the need to contact a financial advisor so as to minimize any future tax liability you might have.
- When Are Personal Injury Compensation Payments Taxable?
- What are the compensation payments made in a personal injury claim?
- Are compensation payments taxable in the UK?
- What taxes apply to lost income recovered in personal injury claims?
- Can receipt of compensation monies affect benefit entitlement?
- Is money made from investing your compensation payments taxable?
- What should you do to minimize your tax liability on investing compensation payments you receive?
- SUMMARY – Compensation Payments Taxable
- What are the compensation payments made in a personal injury claim?
What are the compensation payments made in a personal injury claim?
A personal injury claim for compensation has primarily two parts:
- The compensation payment for pain and suffering and loss of amenity. Known as general damages.
- Compensation money for financial loss and expense. For example – lost income. Collectively known as special damages.
The compensation payment you receive at the end of your claim is the combination of the general and special damages. It is typically paid in full and final settlement of your personal injury claim.
Are compensation payments taxable in the UK?
The answer to the compensation payments taxable question is generally, “no”.
However – this is because the amount of lost income you receive in compensation was already adjusted for tax.
The sum you are awarded at the end of a personal injury claim is not in itself subject to tax and is therefore tax free.
Tax Considerations May Affect Calculations
The different parts that make up your total personal injury claim may be calculated differently due to tax.
What taxes apply to lost income recovered in personal injury claims?
If your injury affects your ability to work then your claim will generally include compensation for lost income.
However, your solicitor can only claim a net payment for the lost income element.
In other words – the compensation value for lost income is calculated as though you had already paid tax.
Lost income is calculated in this way for both past and future lost income.
You Should Not Be Over Compensated
The law in the UK does not permit a Claimant to be over compensated.
In other words – you cannot recover more in lost income than you would have received had you completed the work.
For example – imagine you had 6 months off work when your claim settled. However, the medical expert in your claim predicted a further 10 years of inability to work. Both the 6 months and the future lost income (calculation discounted for early payment) are both valued net of tax.
Can receipt of compensation monies affect benefit entitlement?
See our personal injury compensation and benefits article explaining what might happen to any state benefits you might be receiving following receipt of your compensation settlement.
Is money made from investing your compensation payments taxable?
Yes – once you have received your personal injury settlement monies – any income or capital gain derived from these monies would be considered taxable (in the same way as if you had invested your own earned money).
Examples Of Savings Interest And Investment Gains
For example – if you deposited your compensation monies and received interest payments, the interest would have to be declared to Inland Revenue. Hence, some tax may be due on an annual basis.
Alternatively, if you invested in shares and made a capital gain on sale – the gain too would be considered available for taxation. Dividends from the shares would be classed as income to declare.
Of course, investing or saving in an tax free ISA may help reduce your tax liability.
What should you do to minimize your tax liability on investing compensation payments you receive?
You should always seek financial advice as to how best to invest any compensation monies. This is expecially true if your compensation monies are substancial.
In this way you can legally minimize the tax that you might pay on income or capital gains you derive.
Solicitors Should Not Provide Financial Advice
Solicitors should never provide you with financial advice. Although some solicitor firms may be registered to have a department that can assist.
Generally– your solicitor might be able to put you in touch with an independent financial advisor before you receive payment of compensation monies.
The financial advisor should be able to assist with not only investment options, but also discuss whether it is advantageous to hold the compensation money in the form of a trust.
SUMMARY – Compensation Payments Taxable
In summary – you have not only learnt about tax adjustments in compensation calculations will allow your compensation payment to be made tax free, but also how a financial advisor can assist to ensure how best to invest your compensation in the most tax efficient manner.
FREE Specialist Personal Injury Solicitor Help
We uniquely offer free specialist solicitor telephone and online help.
You may simply be thinking of making a personal injury claim or have some questions you would like answering.
You can not only speak direct with our solicitors and arrange a callback, but also ask a question. We can also discuss any concerns about compensation payments being taxable.
