How Are Personal Injury Settlements Paid Out?

The goal of any personal injury case is to obtain as much compensation as possible for the injured person, typically either through an insurance claim or a lawsuit. Very few lawsuits go all the way to trial. Instead, the parties reach an agreement in which the defendant pays a settlement in exchange for the dismissal of the suit.

A personal injury settlement should provide the plaintiff with compensation for their injuries. It also pays the lawyer’s fee and covers the expenses associated with the lawsuit. The plaintiff gets to decide how they would like to receive their share of the settlement: as a lump sum all at once or as a structured settlement paid out over time. Each option has advantages and disadvantages.

A skilled personal injury attorney can help you determine which is right for you.

Distribution of a Settlement

Upon receiving a personal injury settlement, the plaintiff’s attorney will first pay any expenses and fees connected to the claim. Personal injury attorneys usually get paid a percentage of the total settlement or award. One-third is a common amount.

Suppose a lawyer settles a claim for their client for $750,000. The lawyer would collect a fee of $250,000, leaving $500,000 for the plaintiff.

Next, bills must be paid. Suppose the plaintiff and their lawyer incurred $25,000 in medical liens and other expenses. Doctors and other medical professionals who have treated the plaintiff can place liens on future settlements to ensure that their bills get paid. Expenses might include investigators to establish what happened to the plaintiff and expert witnesses to testify about their injuries. Once the liens and expenses are paid, $475,000 remains to be disbursed to the plaintiff.

Disbursement of a Settlement to the Client

The plaintiff must decide how they want to receive their share of the settlement. They have two options: a lump-sum payment or a structured settlement.

Lump-Sum Payment

A lump-sum payment means that the plaintiff would receive $475,000 all at once. A payout of this type has its advantages:

  • Access to all of the settlement money right away;
  • Ability to pay tax on any taxable portion of the settlement (as discussed in more detail below); and
  • Control over how the money is disbursed or invested.

A plaintiff who chooses the lump-sum option should be prepared to make difficult decisions about how to use the money, especially if their injuries have left them with long-term medical expenses. Once they receive the money, they have complete control over it. That can be a double-edged sword.

Structured Settlement

Instead of receiving the money all at once, a plaintiff can choose to receive it over time as a series of payments. It is, in effect, an annuity funded by the settlement money. An annuity is a type of investment in which a person pays a sum of cash to an insurance company, bank, or other financial institution, and receives regular payments in return.

Annual Growth Rate

Somewhat like interest on a loan, except in reverse, the financial institution pays the person an additional amount, commonly known as the return rate or annual growth rate. A structured settlement can therefore result in a larger total amount of money than a lump-sum payment. The difference is that the structured settlement pays that greater amount over a period of years.

Suppose the plaintiff described earlier decides to place their $475,000 settlement into an annuity that will pay out for ten years, with a three percent annual growth rate. It could potentially pay the person about $4,300 per month over that ten-year period. After a decade, the person will have received a total of $516,000, or $41,000 more than if they had taken the lump-sum payment.

Flexibility

A structured personal injury settlement offers much greater flexibility than a lump-sum payment. The plaintiff can decide, first, how long they want to receive payments. They can receive payments for the remainder of their life, or they can choose a specific length of time, such as five, ten, or twenty years. Payments could be received monthly, quarterly, or annually.

The recipient of a structured settlement can also choose whether the amount of each payment should remain consistent or should increase or decrease over time. They could also choose to have the annuity pay a smaller lump sum at the beginning or end of the payment period.

A person might choose to receive larger payments early on, for example, if they have significant expenses for medical care or rehabilitation, but they do not expect those expenses to continue indefinitely. They could also reinvest the annual growth amount into the annuity, which would increase the amount of each payment over time. This option could be beneficial if the person expects the periodic payments to be their primary source of income and they want them to keep up with inflation.

Selling a Structured Settlement

It might be possible for the recipient of a structured settlement to sell it to someone else. In effect, they would receive a lump-sum payment in exchange for signing the right to receive future payments over to someone else. The lump-sum payment would, of course, be smaller than the total amount that remains payable on the annuity.

A person might decide to do this if they have a sudden and immediate need for more money than is available through the annuity’s regular payments. In some situations, selling a structured personal injury settlement requires court approval. Nearly every state and the District of Columbia have enacted a version of the Structured Settlement Protection Act, which regulates the sale of structured settlements.

Factors to Consider When Deciding How a Settlement Should Be Paid

Whether a person should choose a lump-sum payment or a structured settlement will depend on multiple circumstances. They should consider their financial situation and their medical needs. They should also make an honest assessment of how they would handle a sudden, massive influx of cash.

Tax Issues

Personal injury settlements are not subject to federal income tax, with a few exceptions. Compensation that is specifically intended to cover lost wages could be treated as taxable income. Punitive damages are often considered taxable. Any part of a settlement that reimburses a person for medical expenses could be taxable if the person has already claimed those expenses as tax deductions.

The way a person chooses to receive a personal injury settlement is likely to affect their taxes. If they choose a lump-sum payment, they could owe income tax on any taxable portion of the settlement with their next tax return. If they opt for a structured settlement, exactly how much they owe in taxes might be less clear. Income from an annuity’s annual growth will be taxable as income, so they should discuss the matter with a tax professional.

Financial and Medical Needs

Some recipients of personal injury settlements have immediate financial or medical needs. Others will need financial assistance over a long period of time. The manner in which they choose to receive their settlement could depend on how they would prefer to handle these financial and medical issues.

Financial Management

A person who is receiving a personal injury settlement should take an unflinching look at their own financial management skills. A large influx of cash creates inevitable temptations, but they will need that money for medical expenses, to replace lost earning capacity, or for any number of other serious reasons. A person who can invest that money responsibly might consider a lump-sum payment. Someone with little experience in this sort of thing might be better off with a structured settlement.

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