Are My Workers’ Compensation Benefits Taxable?

In California, money from workers’ compensation benefits is not taxed in most situations. Workers’ compensation is considered a public benefit funded by tax dollars. Because of this, none of it is withheld for tax and you won’t owe the IRS or the state of California anything for your workers’ comp benefits come April 15.

For many injured workers, knowing this information comes as a relief around tax season.

According to the Internal Revenue Service IRS Publication 907, the benefit payments received in the form of workers’ compensation for a job-related disease or injury are completely exempt from tax if paid under a workers’ compensation act or a similar statute. The injured worker does not need to pay any taxes on their weekly wage loss benefits, on the value of medical costs incurred, or on your workers’ compensation final settlement. This same tax exemption rule applies to the surviving dependents of the deceased worker who are entitled to receive workers’ compensation death benefits.

Workers’ compensation falls under the category of non-taxable income just like any other governmental benefits, such as income from public welfare funds and compensatory damages for physical injury or illness. The disability benefits received under a no-fault car insurance policy meant to cover for the loss of income or earning capacity due to an injury belong to the same non-taxable income category. The compensation you receive due to a work-related permanent partial disability associated with loss of or use of a body part is non-taxable.

The compensation benefits received by the injured workers are not subject to income tax in California since it is funded under the workers’ compensation act or statute. The benefits are not considered “earned income” under current tax laws. Also, when you are injured in work-related activity or any other activity, you will have to miss work, and the benefits received for the lost wages are at a reduced rate from your regular wages.

One of the main reasons why workers’ compensation is exempted from taxation is that the compensation earned comes from the public through federal funds. The fund is designed to help the injured worker for settling their bills during the period of recovery from work-related injury or illness. Taxing such benefit payments would be grossly unfair and unjust, by any means, as it would be like feeding its own money back into the system.

Since the workers’ compensation benefits are exempted from tax, there is usually no need to report them as income on your tax return unless you meet the tax-exempt exceptions that may apply.

The Social Security Disability Offset

If you receive both workers’ compensation benefits and Social Security Disability Insurance (SSDI) benefits, your combined income from these sources can be no more than 80% of the average gross income you earned before your disability.

If your combined income exceeds this threshold, then your SSDI benefits are reduced by an amount that brings your income back down to 80% of your pre-disability earnings.

This Offset Can Be Taxed

When your SSDI benefits are reduced to account for income from workers’ compensation, the offset amount is taxed. Wondering how this happens? This happens because the amount reduced from your SSDI benefits could have been taxable if it came from Social Security instead of workers’ comp.

Conclusion

If you are not receiving Social Security Disability benefits, you don’t have to worry about the government taxing your workers’ comp money. If you do receive these benefits, though, find out whether or not workers’ comp benefits are creating an offset. If they are, you should plan on factoring that amount into your annual tax return.

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Cole, Fisher, Cole, O’Keefe + Mahoney is Central California’s leading workers’ compensation and social security disability law firm. With over 30 years of successful experience, we are committed to securing maximum benefits for our clients in the Fresno, California area. Schedule a free consultation today.