Financial Security Served Through Structured Settlement
The resolution of large or catastrophic workers’ compensation claims through a structured settlement is financially beneficial to the injured employee. However, most severely injured employees develop thoughts of what they can do with a large lump sum of money without realistically analyzing what their future or their families’ life-time financial situation will be. With proper guidance from either their attorney or from the work comp adjuster, the injured employee will stop to consider the long-term ramifications of their injury. Their financial security is normally best served through a structured settlement.
Internal Revenue Code defines structured settlements as periodic payments to settle an injury claim or a work related illness claim. Periodic payments are normally monthly but can be quarterly, annually or other specific points in time. To fund the periodic payments, the self-insured employer or the workers’ compensation insurer purchases an annuity from a life insurance company. (The life insurance company should be financially strong, with an A or higher rating from AM Best or similar service). The periodic payments can be for a set period of time (for example 20 years), for a life time, or for both the injured employee’s life time and the spouse’s life time.
Structured Settlements Are Not Taxed
The Internal Revenue Service (IRS) tax codes create a significant financial benefit to the injured employee through how structured settlements are not taxed. Congress passed the Periodic Payment Settlement Tax Act of 1982 (also known as Public Law 97-473) to provide severely injured liability claimants with tax relief. In 1986 codified the structured settlement rules in sections 104(a)(2) and 130 of the Internal Revenue Code of 1986. Congress would later expand the law to cover workers’ compensation injuries as a part of the Taxpayer Relief Act of 1997.
With a structured settlement the injured employee agrees with the self-insured employer (or work comp insurer) to release the employer of any further responsibility for the medical cost or indemnification obligation in exchange for the stream of periodic payments. The self-insured employer or insurer normally transfers the obligation to pay the employee to a life insurance company through the purchase of an annuity that meets the agreed to periodic payment schedule.
Once the injured employee and the self-insured employer (or the workers’ compensation insurer) have agreed to settle the work comp claim in exchange for periodic payments, the full amount of the periodic payments are tax-free income to the employee. If the injured employee opts for a lump-sum settlement, the lump-sum is not taxed; but all future earnings (both interest and dividends) on the lump-sum are taxable to the employee. Hence, even if the employee is a skilled money manager (most injured employees are not), there is a large future income tax savings benefit to the periodic payments of a structured settlement.
The IRS is not totally benevolent with structured settlements. The IRS codes state that in exchange for tax free periodic payments, the injured employee agrees that he/she does not have the authority to alter the periodic payments. The injured employee cannot increase or decrease the periodic payments, the employee cannot change the agreed to time frame of the periodic payments, and the injured employee cannot delay or defer the periodic payments to a later date.
Structured Settlement Options Should Be Explored
The amount of income tax savings depends on several factors including the amount of the periodic payments versus the amount of a lump-sum settlement, the employee’s other sources of income, the income tax rate, and future changes in the income tax rates. For an estimate of the income tax savings of the structured settlement, the injured employee should consult with their income tax professional.
Overall, a structured settlement is hard to beat for a tax-free source of income. Any employee contemplating a workers’ compensation settlement should consider the use of a structured settlement. Most structured settlement firms provide structured settlement services to their clients at absolutely no cost to their clients. For more information on structured settlements, please contact us.
Author Rebecca Shafer, JD, President of Amaxx Risk Solutions, Inc. is a national expert in the field of workers compensation. She is a writer, speaker, and publisher. Her expertise is working with employers to reduce workers compensation costs, and her clients include airlines, healthcare, printing/publishing, pharmaceuticals, retail, hospitality, and manufacturing. She is the author of the #1 selling book on cost containment, Workers Compensation Management Program: Reduce Costs 20% to 50%. Contact:RShafer@ReduceYourWorkersComp.com.
Editor Michael B. Stack, CPA, Director of Operations, Amaxx Risk Solutions, Inc. is an expert in employer communication systems and part of the Amaxx team helping companies reduce their workers compensation costs by 20% to 50%. He is a writer, speaker, and website publisher. www.reduceyourworkerscomp.com. Contact: mstack@reduceyourworkerscomp.com.
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