Under Section 104(a)(2) of the federal Internal Revenue Code, damages paid "on account of" a physical injury or wrongful death are excluded from an individuals income tax. But importantly for those who depend on this settlement, the investment income earned from a lump-sum settlement can be fully taxable.
Under a structured settlement, all future payments are completely free from:
- Federal & state income taxes,
- Taxes on interest, dividends and capital gains, and
- The Alternative Minimum Tax (AMT).
Why are your structured settlement payments exempt from so many taxes? What follows are highlights of federal tax policy through the years as it relates to injury compensation. This timeline is based in part on information contained in Structured Settlements & Periodic Payment Judgments by Patrick Hindert, Daniel Hindert and Joseph Dehner (Law Journal Press). NSSTA is grateful for their cooperation.
| Year | Tax Development |
 1919 | The exclusion of income for personal injury damages, presently a part of Internal Revenue Code §104(a)(2) was signed into law by President Woodrow Wilson in 1919. The legislative history of the Revenue Act of 1918 suggests that primary reason was that Congress did not view compensation for physical injury or accident as a gain. Therefore, it was not income within the meaning of the 16th Amendment. |
 1920 | In Eisner v. Macomber, Supreme Court Justice Mahlon Pitney, writing for the majority, rules that a stock dividend was not a realization of income by the taxpayer-shareholder for purposes of the Sixteenth Amendment:
|
| 1922 | In a tax ruling (Solicitors Opinion 132, I-1, C.B. 92,94), the federal government holds that compensatory damages for invasion of a personal right do not constitute taxable income, as defined in Eisner v. Macomber decision. |
 1928 | The IRS rules that an award paid by the Mixed Claims Commission of the U.S. and Germany to the surviving spouse of a passenger on the Lusitania is not taxable since the award is designed to "restore [the decedent's wife] to substantially the same financial and economic status as she possessed prior to the death of her husband." |
 1955 | In Commissioner v. Glenshaw Glass Company, by a 7-1 decision, the U.S. Supreme Court holds that the Eisener definition of income is not exclusive and that all realized accessions to wealth may be taxable as income. Chief Justice Earl Warren, writing for the majority, held that the income in question constituted "instances of undeniable accessions to wealth, clearly realized, and over which the taxpayers have complete dominion." |
 1983 | President Ronald Reagan signs P.L. 97-473, which formalized structured settlements benefits in federal law. The law amended §104(a)(2) to clarify that the full amount of a structured settlements payments constitutes damages which are received by the victim free of any federal tax liability. Congress also adopted IRC Section 130 to facilitate secure, long-term funding arrangements, funded by annuity contracts or Treasury securities, for physical injury victims. |
 1995 | In Commissioner v. Schleier, the U.S. Supreme Court holds that the amount received in settlement of a claim for backpay and liquidated damages under the Age Discrimination in Employement Act fails to qualify for §104(a)(2) exclusion. In establishing a standard for excludability, Justice John Paul Stevens, writing for the Court in the 6-3 opinion, stated, in part that the taxpayer must demonstrate that the underlying cause of action giving
|
 1996 | President Bill Clinton signs the Small Business Job Protection Act of 1996. The new law provides that henceforth any damages, other than punitive damages, that originate from a physical injury or sickness caused by a tort are excludable from the recipients gross income. NSSTA successfully fought to preserve the tax-free treatment under Code section 104(a)(2) of wrongful death claims and derivative claims of family members in physical injury cases. |
 1997 | President Clinton signs legislation (Taxpayer Relief Act of 1997, Public Law No. 105-34) designed to facilitate the use of structured settlements to resolve workers' compensation cases. The law allows employers and their workers compensation insurers to settle workers' compensation claims on the basis of periodic payments under a structured settlement and to assign that periodic payment liability to a structured settlement company that will purchase an annuity to fund that liability. NSSTA strongly supported this law, which allows an employer/workers' compensation carrier to deduct on a current basis the full amount of the lump sum paid to the structured settlement company. |
 2002 | President George Bush signs the Victims of Terrorism Compensation Act of 2001. This includes language regulating a structured settlement annuitants ability to transfer rights to receive future annuity payments. The law includes multiple consumer protections supported by NSSTA including disclosure requirements and approval by a federal court. |
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