Last updated: November 25th, 2022
Reviewed by
Paige Geisler
Licensed Insurance Agent
If you receive these benefits, it’s helpful to know if this income is taxable. This knowledge lets you plan for tax time and your recovery from injury or illness. In addition to using this resource, always check with your tax preparer to make sure you’re complying with all tax laws.
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Workers’ compensation insurance is not taxable in the majority of cases. Any compensation you receive for work-related sickness or injury is fully exempt from tax if it’s paid under a workers’ compensation act or similar statute. Similarly, benefits paid to surviving family members after a worker’s death are not taxable. However, if you also receive government benefits, your workers’ compensation may be taxable.
You may be eligible to receive benefits through Social Security disability income or Supplemental Security Income while also receiving workers’ compensation insurance. If you receive any government benefits, you may need to pay income tax on a portion of your workers’ compensation insurance due to the social security disability offset. Your tax preparer or insurance company representative should be able to answer your questions about how workers’ compensation functions while you’re receiving government benefits.
When you receive SSDI or SSI as well as workers’ compensation insurance, your income cannot go above a certain threshold. The Social Security Administration may reduce your benefits to ensure your total income from these sources isn’t too high. This is called the Social Security disability offset.
If part of your workers’ compensation insurance reduces your SSDI, then that part becomes taxable. For example, if your SSDI is reduced by $200, then $200 of workers’ compensation is taxable. This is because that portion is treated as SSDI, and Social Security benefits can be taxed when they reach a certain level. If you had received that income through SSDI rather than workers’ compensation, it would have been taxed.
Some states use a reverse offset. In these states, your workers’ compensation payment is reduced instead of your SSDI. This means your compensation isn’t taxed, although you must still pay any relevant taxes on your Social Security income.
The offset applies when the combined amount of your workers’ compensation and disability benefits exceed 80% of your average current earnings. The SSA defines this as the largest of:
Although workers’ compensation isn’t generally taxable, any other income you receive is subject to income tax. The following scenarios may impact your taxes.
If you return to work on light duties or in a different role, you may still receive a portion of your workers’ compensation benefits. In this case, the wages you earn are taxable, though your compensation isn’t.
You may receive interest with your workers’ compensation payments, especially if there’s a long delay in approving the claim. Any income you receive from interest is taxable.
Retirement benefits received due to your age, years of service, or contributions are taxable. This is the case even if you retire due to your illness or injury.
There aren’t any exemptions to taxes caused by the Social Security disability offset; however, you can minimize taxes. A workers’ compensation attorney can arrange your settlement to reduce the offset, which also decreases your tax burden. Generally, this is done by treating a lump-sum payment as if it was spread out over your expected lifetime.
Brian is the founder and CEO of Insurist and carries Life, Health, and Property & Casualty licenses in all 50 U.S. states. Since 2013, Brian has been a member of Million Dollar Round Table, a designation for the top 1% of financial advisors worldwide. Brian has been featured in Yahoo! Finance, Money.com, Entrepreneur.com, Life Happens, Forbes, MSN, and Good Financial Cents. Brian’s goal is to show customers the best products, the quickest answers to their questions, and provide expert advice.
Paige is an assistant agent for State Farm and is licensed to sell property and casualty, health, and life insurance in Virginia. She handles all different types of insurance and financial services and is currently working on a securities and bonds license. Paige has a degree from Radford University in English and is a certified notary.
