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Do U.S. Citizens in Israel Pay Tax to the IRS on a Legal Settlement?

legal settlementThis is a two-part article addressing questions that arise when people receive lump sums. For the entire article, click here.

If you’re a U.S. citizen who recently received proceeds from a legal settlement, be aware of any possible tax requirements, as these can directly affect your retirement and estate planning.

Depending on the type of compensation received, and if it involved certain kinds of claims and attorneys’ fees, the IRS may count a settlement as income and tax it accordingly.

Physical illness or injury

The IRS doesn’t count settlements based on physical illness or personal injury as income, as long as you did not take an itemized deduction that year on your income tax. If you receive a settlement for medical expenses, but you deducted any amount in prior years as a tax benefit, then this part of the settlement counts as income.

Emotional distress or mental anguish

Settlements for emotional distress or mental anguish have the same rules for physical illness or injury, with one exception: You must include any proceeds for this purpose that did not originate from personal injury or illness in your income.  In other words, any additional proceeds paid out for mental anguish not directly caused by the original injury. The IRS holds that such proceeds are additional income not related to the settlement and must be taken into consideration separately for both legal and tax purposes.

How to handle the money when it comes in

We’ve recently dealt with many people who were receiving a lump sum settlement from a lawsuit. Because of difficulties of American citizens investing with Israeli banks these clients were happy to be able to open an account in the United States. With simple instructions, the clients then told the law firm where to wire the money, and the whole process went smoothly. Unfortunately, dealing with settlements often has stresses, both practical and emotional. It’s important to understand your tax situation as well as work with an investment firm that understands your specific needs.

Free information

To get this complete article along with the IRS’s information about what you need to report to the IRS regarding a legal settlement, click here.

 

Douglas Goldstein, CFP®, investment advisor, is the co-author with Grandmaster Susan Polgar of Rich As A King: How the Wisdom of Chess Can Make You a Grandmaster of Investing and director of Profile Investment Services, Ltd. which specializes in cross border investing and financial planning.

Profile Perspectives is a personal finance blog based on articles Doug Goldstein, CFP®, director of Profile Investment Services, Ltd., published in The Jerusalem Post. The information posted is purely informational and does not constitute investment or tax advice. Advertisements on the site are neither endorsements nor recommendations. Consult your professional advisors before making any investments based on articles or advertisements. Securities offered through Portfolio Resources Group, Inc., member of FINRA, SIPC, MSRB, FSI. Accounts carried by Pershing LLC., Member NYSE/SIPC, a subsidiary of The Bank of New York Mellon Corporation.

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