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Is Workers’ Compensation Considered Income When Filing Taxes?

Filling 1040 tax form with smartphone calculator and pen

Generally, workers’ compensation benefits are not considered income, and therefore are not subject to taxes. Workers’ compensation benefits do have to be reported on a 1040, but are subtracted from an injured worker’s total income.  If an injured worker is receiving other types of disability or retirement benefits, they may face other tax or financial consequences. As tax season approaches, recipients of workers’ comp benefits may wonder, “is workers’ compensation considered income when filing taxes?”

Illinois State law requires employers to purchase and carry workers’ compensation insurance. Employees that suffer work-related injuries and illnesses are eligible to make claims for workers’ compensation benefits. 

What Types of Benefits Are Provided by Workers’ Compensation Insurance? 

Workers’ compensation insurance is a form of no-fault insurance. This means an employee may have negligently caused his or her own injury, and still be eligible to make a workers’ compensation claim. Depending on the severity of their injuries, injured workers are entitled to extensive benefits which are designed to aid them during their recovery. These benefits include:

  • Medical Bills – Workers’ compensation insurance is required to pay for an injured worker’s medical expenses, and treatment including physical therapy, surgery, and hospital care.
  • Temporary Total Compensation – If an injured employee is unable to work for more than three days due to his or her injury, this benefit pays up to two thirds of his or her pre-injury weekly wages, including overtime.
  • Temporary Partial Disability – If an injured employee is unable to return to work in a full duty capacity, or must take a job earning less than his or her pre-injury wage, this benefit pays two thirds of the lost income.
  • Vocational Rehabilitation – If an injured worker is unable to perform his or her pre-injury duties, he or she is entitled to receive job training and education in order to re-enter the workforce, and obtain a position that can accommodate his or her physical limitations. Injured workers also Temporary Total Compensation benefits while undergoing training, or education.
  • Permanent Total Disability – After an injured worker reaches maximum medical improvement but remains permanently disabled, he or she is entitled to a financial award based on the financial value of the disabled body part. An injured worker can receive a permanency award via a lump sum, installment payments.

These benefits are not considered taxable income.

Why Are Workers’ Compensation Benefits Not Taxable?

Workers’ compensation benefits are not classified as taxable income. This is one of the reasons why injured employees are only paid two-thirds of their pre-injury weekly wages when receiving lost wage benefits. The remaining third is the amount that would have been deducted for State and Federal taxes, such as the Social Security tax. Taxable income includes the wages an employee earns from his or her job, certain economic damages awarded in personal injury cases, disability benefits awarded from a no-fault automobile insurance policy, and welfare benefits. Non-taxable income includes welfare, and disability payments.

While the Internal Revenue Service’s rules require workers’ compensation benefits to be reported, they are not subject to taxes. If an injured victim is receiving workers’ compensation along with other types of welfare or disability benefits, then the benefits are subject to other tax consequences.

What Are the Tax Consequences of Receiving Workers’ Compensation and Retirement Benefits?

While workers’ compensation insurance benefits are not taxable, other types of benefits are subject to taxes.  This includes pensions, and retirement benefits injured that workers receive as a result of work-related injuries, or for occupational illnesses. In some instances, injured workers are paid workers’ compensation and retirement benefits simultaneously. The only money that is subject to taxes is the money that is being paid from the retirement benefits, not the total amount.

What Are the Tax Consequences of Receiving Workers’ Compensation and Social Security Benefits?

If a person suffered a serious injury and is receiving both workers’ compensation benefits, and social security benefits such as Social Security disability insurance (SSDI) or Supplemental Security Income (SSI), he or she is required to pay taxes on the money received from the social security benefits. An injured worker faces additional tax consequences if he or she is being paid money for a Permanent Total Disability award, and receiving Social Security retirement or disability benefits.   

The money from the Permanent Total Disability award is not subject to any State or Federal taxes, including income, social security, or medicare taxes.  However, if an injured worker’s gross income exceeds a certain amount, the injured worker must pay federal income taxes on the excess income.  Due to the complex nature of these benefits, and the potential financial consequences, it is advisable for injured workers to consult a Chicago workers’ compensation lawyers prior to making claims for benefits.

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