When you’re injured or a loved one is killed in an accident caused by someone else’s negligence or wrongdoing, you may be eligible to claim compensation for your losses, such as medical expenses, lost wages, pain and suffering, shortened life expectancy, and loss of financial support from the deceased.
While it’s important to pay attention to what level of compensation you receive in a personal injury settlement, it’s also important to negotiate the way the settlement is structured, as well as using caution with what you do with the compensation.
If you’re not careful, it could cost you significantly in terms of taxes you must pay to the Canada Revenue Agency (CRA) for this compensation. CRA tax laws are incredibly confusing, which is why it’s critical to work with an experienced personal injury lawyer who understands the potential tax implications of a personal injury settlement.
At Valent Legal, our Nova Scotia personal injury lawyers can help you fight for the compensation you deserve, plus we can use our knowledge and understanding of CRA policies and procedures regarding personal injury cases to help you avoid losing a large portion of your settlement to taxes.
Call or text us today or chat with us online to schedule your free consultation and see how we can help with your case.
Do You Have to Pay Taxes on a Personal Injury Settlement?
This type of settlement is typically meant to compensate victims for losses caused by the accident, such as medical expenses, pain and suffering, and lost income.
The CRA usually follows the “surrogatum principle,” which looks at whether a settlement payment takes on the characteristics of what it is meant to replace. For example, if a business sues someone over revenue it lost due to a breach of contract, then the purpose of the settlement award would be to replace the lost business income. That award would be taxable because the income it replaces would have been taxable.
However, laws governing the CRA have a special exception for personal injury payments. As long as the award is for special damages like loss of future earnings or general damages like loss of earning capacity, you typically do not have to pay taxes on compensation received in this kind of settlement.
This means that even if you would normally have to pay taxes on the earnings that the personal injury settlement is replacing, you do not have to pay taxes on the compensation you receive through your settlement for lost wages. It doesn’t matter whether a judge or jury awards the compensation or you reach a settlement out of court – these payments are usually not taxable.
In addition, even if a government entity like a province or territory is the party paying you for injuries after a motor vehicle accident or criminal act, these payments still are not taxable by the CRA.
If the settlement includes something other than special or general damages, then you might have to pay taxes on it. For example, if it includes terms like a guaranteed severance payment or other compensation that could be considered employment income, then that part of the settlement might be taxable.
Do You Have to Pay Taxes on a Disability Insurance Settlement?
If you are injured in an accident like a motor vehicle collision that leaves you unable to work, then the liable party’s auto insurance company might pay you short-term disability (STD) or long-term disability (LTD) compensation to replace your lost income. Income from this type of settlement is typically not taxed.
Can the CRA Take My Personal Injury Settlement Money?
If you receive money in a personal injury settlement due to injuries you suffered or because your loved one was killed in an accident, this money is usually exempt from taxes.
Some examples of exempt personal injury awards include:
- Annuities from a structured settlement that you receive over a period of time from a life insurer to settle a personal injury claim
- Payments from a class-action settlement due to injuries you suffered, such as through the 2015 Alberta Child Welfare Class Action Settlement
- A lump sum award for the reimbursement of expenses related to an injury, loss of income, pain and suffering, and other losses in a personal injury claim
However, money that you receive in a personal injury settlement can become non-exempt (and thus taxable) depending on what you do with it. For example, if you use the money from your settlement to personally purchase an annuity or other assets, then any interest that these assets earn could be taxable.
What Is a Taxable Benefit?
When an employer pays for an employee’s perks or pays the premiums for an employee’s benefits, the CRA considers much of this compensation that they receive as a taxable benefit.
Additionally, with Wage Loss Replacement Plans (WLRPs), LTD and STD benefits typically help replace employment income that a worker loses due to an accident, disability, or illness. The CRA made important updates to the tax law in 2015, which impact whether you must pay taxes on these disability benefits.
If your employer pays the premiums for your STD or LTD insurance through a group plan, then these are not taxable benefits, and you don’t have to pay taxes on the insurance premiums themselves.
However, you typically have to pay taxes on any STD or LTD benefits you receive in the future. Due to the 2015 CRA law updates, you must pay taxes on STD and LTD payments at the time they are issued (instead of when you file your annual income tax returns). Individuals can also apply for Canada Pension Plan (CPP) disability benefits if they have a substantial disability that prevents them from working. These CPP benefits are taxable as well.
On the other hand, if you pay for your disability premiums or hold your own non-group disability insurance plan, then the STD or LTD benefits you receive are not taxable.
Similarly, workers’ compensation benefits, such as payments that an employee receives to replace income lost after a workplace injury or after a loved one dies in a workplace accident, are not taxable.
Can I Invest Settlement Money?
A victim is allowed to invest money that they receive from their personal injury claim, but this might impact their taxes.
For instance, for victims who are younger than 21-years-old, the money that these victims receive themselves or that someone receives on behalf of the victim for a physical or mental injury is exempt from taxes. In addition, capital gains and investment income from this award are also typically exempt from taxes.
However, for victims who are over 21, they usually must pay taxes on investment income from their personal injury award. Say, for example, that you received $10,000 in non-pecuniary damages for pain and suffering. If you invest this money in stocks that earn 10 percent this year, then you must pay taxes on the $1,000 earned by your investment.
On the other hand, you might choose to receive your personal injury award in a structured annuity. In this case, you would not have to pay taxes on any of your settlement – even the interest that the money gains before you receive it in periodic payments.
In order to qualify to receive money through a structured annuity:
- The money must be compensation for a personal injury or death.
- The insurer must agree to make these periodic payments for a fixed term or for the life of the victim, and the victim must agree to the terms, plus once the agreement for periodic payments is in place, they can’t switch back to a lump sum.
- The insurer must purchase an annuity contract and direct the issuer of the annuity to make payments directly to a single person, which means the victim can’t transfer the contract to another individual or a third party.
- The insurer must remain liable to make payments as laid out in the structured settlement agreement.
Get Help from a Nova Scotia Personal Injury Law Firm
If you’ve been injured in an accident or your loved one was killed because of someone else’s wrongful or negligent actions, it’s critical to have an experienced personal injury lawyer on your side.
At Valent Legal, we have the skills and resources that it takes to help you fight for the compensation you deserve and structure it in a way that makes the most sense for you and your tax situation.
To set up your free consultation and see how we can help with your case, contact us today by phone or reach out to us online.
