Tax Audit Post Car Accident Settlement

If you’ve received a settlement following a car accident, you may be concerned about how it could impact your taxes. While personal injury settlements are often tax-free, there are situations where the IRS might get involved, especially if the settlement includes different types of compensation. A lawyer, like a tax audit lawyer, knows that if you find yourself facing a tax audit after a car accident settlement, it’s important to understand how the IRS might review your case and what steps you can take to address the situation.

The Basics Of Taxable And Non-Taxable Settlements

In general, personal injury settlements related to physical injuries are not taxable. This includes compensation for pain and suffering, medical expenses, treatment, and other damages. However, if your settlement includes amounts for lost wages, punitive damages, or emotional distress unrelated to physical injury, these parts may be subject to taxation. This is where things can become confusing, and the IRS might want to review the details of your settlement.

For example, if your settlement includes compensation for lost income, you are likely required to report this amount as taxable income. Similarly, if the settlement involves punitive damages, those can also be taxable. If your case was more complex, such as involving both physical and emotional injury, you may need to break down which part of the settlement is tax-exempt and which is taxable.

What To Expect During A Tax Audit

A tax audit after a car accident settlement usually focuses on the settlement breakdown and the way it was reported on your tax return. If the IRS has questions, they might ask for documentation such as the settlement agreement, attorney invoices, and medical bills. They may want to confirm whether you properly reported all taxable income and whether any deductions you claimed were appropriate.

In some cases, the IRS might question the amount you deducted for medical expenses or attorney fees. If your attorney worked on a contingency basis, you may have deducted those fees from the settlement award, but you must be sure to do so correctly. The IRS could require you to explain how you arrived at your figures to avoid any discrepancies.

Attorney Fees And Other Legal Costs

One area that often comes under scrutiny during a tax audit is the legal fees associated with your case. If you hired an attorney to represent you in your car accident case, you might have to pay significant legal fees. These costs can usually be deducted, but the IRS will want to see clear records that show the fees were directly related to the personal injury claim.

For example, if your settlement was for $100,000 and your attorney took a 30% fee, the IRS would want to know if this fee was properly deducted from the settlement, and whether you included the full amount in your income. If you report only the net amount after attorney fees, it could raise red flags during an audit.

How To Prepare For A Tax Audit

If you’ve been selected for a tax audit after receiving a car accident settlement, the most important thing is to have all your documentation in order. You should keep a detailed record of all the income you received from the settlement, as well as any expenses related to the injury and the legal process. This includes medical bills, legal fees, and any other costs that were part of the settlement.

Working With Professionals To Handle The Audit

If you find yourself facing a tax audit, it may be helpful to work with professionals who are experienced in handling tax-related issues for personal injury settlements. A tax advisor or accountant can help you gather the necessary information and walk you through the audit process.

Attorneys like those at Crepeau Mourges understand the relationship between legal settlements and tax obligations. They can guide you on how to approach these issues, especially if your case involves a more complicated settlement.