Taxing Workers Compensation Benefits

By | March 9, 2014

State workers’ compensation laws require the employer to pay fixed amounts for specific job-related injuries.  Amounts you receive as workers’ compensation for an occupational sickness or injury are fully exempt from tax if they are paid under a workers’ compensation act or a statute in the nature of a workers’ compensation act. The exemption also applies to your survivors.


Taxation of Workers’ compensation benefits

Workers’ compensation benefits are not normally considered taxable income at the state or federal level. The lone exception arises when an individual also receives disability benefits through Social Security disability insurance (SSDI) or Supplemental Security Income (SSI). In some cases, the Social Security Administration (SSA) may reduce a person’s SSDI or SSI so that the combined amount of the workers’ comp benefits and the disability payments remains below a certain threshold. This is called the workers’ compensation offset.


Tax On Social Security Benefits

Sometimes, however, when benefits have been delayed for a long period of time and an employer or insurance company pays a worker interest in addition to the workers’ compensation benefits, those payments of interest may be subject to both state and federal income tax. However, it is important to remember that worker’s compensation benefits are tax-free unless you also receive Social Security disability benefits.


Social Security disability benefits

If you’re getting Social Security disability, there is one situation where part of your workers’ compensation benefits may be taxed: if your disability benefits have been offset by your workers’ comp benefits. There are two types of payments, temporary disability benefits and permanent disability benefits. Temp is paid at 70% of gross for a reason – it already considers the average, overall tax deduction. Perm is not taxable since it represents a loss of function and loss of earning potential. They cannot tax you on your LOSS of earning potential.


Exempt Worker’s Compensation Benefits

Although the payments are intended, in part, to compensate for a loss of future income, Congress has specifically exempted workers’ compensation benefits from inclusion in gross income. If you return to work after qualifying for workers’ compensation, payments you continue to receive while assigned to light duties are taxable. Taxpayers must report these payments as wages on line 7 of Form 1040 or Form 1040A, or on line 1 of Form 1040EZ. This means that just because you didn’t get a form reporting the amount received, you can’t escape taxation if you feel well enough to go back to work. It’s enough to make you sick.


Worker’s compensation payments are not taxable for social security

Generally though, Worker’s compensation payments are not taxable for social security, federal tax or state tax. A taxpayer may wish to consult with an accountant or tax attorney to verify their situation if the facts are particularly complicated.