Will I have to pay tax on my compensation?Updated: September 11, 2020
Claimants often ask if they will have to pay tax on their work injury compensation. For some, the idea of filling out a tax return is another reason to put off making a compensation claim. In most cases, you will not need to pay any tax, although there are certain points to be aware of.
Personal injury compensation is tax-free
In the UK, specific legislation states that compensation awarded for personal injury is exempt from tax.
Interest from the date of injury to the date the settlement or award is agreed is also tax-free.
This is the case whether your compensation is awarded by a court or settled out of court.
It also doesn’t matter whether you receive your compensation as a lump sum or in instalments - it is still tax-free.
So why the confusion?
Much of the confusion surrounding tax on compensation claims is down to press reports about mis-sold payment protection insurance (PPI) on financial products.
Successful claims involving PPI usually involve a claimant receiving compensation for the premium they have paid for and the interest they have paid out on these premiums over the years. In addition to this, PPI claimants also receive taxable interest on their compensation.
As this tax on the compensation interest is not deducted at source, PPI claimants are obliged to declare this as income on their tax returns.
What about interest on personal injury payments?
Tax is not paid on the interest applied to your compensation award for the period between the date of the accident and the date of settlement.
However, if there is a subsequent delay in the actual payment of the compensation, then further interest may be applied. This further interest is considered income and income tax would therefore be payable on this further amount.
A claimant sustained an injury on 1 January 2018 and brought a claim, which was eventually settled on 14 July 2019.
An award for £32,400 was made, which represented £31,500 in damages and £900 for the interest accrued from 1 January 2018 to 14 July 2019. No tax would be payable on the £900 interest earned before the claim is settled.
The actual payment of the £32,400 award may be delayed after the claim is settled. During this delay, interest is still earned on the compensation payment. However, any interest earned after settling the claim is considered income and is taxed at your income tax rate.
Investing your award
Once you have received your compensation award you may choose to invest it. Any interest or return that you make on this investment would be liable for tax.
What about personal injury trusts?
Personal injury trusts do not relate to tax. Personal injury trusts are set up to ring-fence compensation awards from the assessment of means-tested benefits or care contributions.
Trusts can also be set up to help people who might be incapacitated, vulnerable, under 18, or otherwise unable to manage large sums of money.
If you need further advice relating to tax and trusts, you solicitor will be able to assist or recommend a professional tax advisor during the claims process.
If you have been injured at work in the last 3 years, you may be able to claim financial compensation.
Find out more about making a work accident claim:
- Do you qualify?
- How much compensation could you get?
- How does No Win, No Fee work?