Day on Torts
The taxability of Tennessee personal injury and Tennessee wrongful death settlements and judgments is governed by Section 104 of the Internal Revenue Code.
Generally, compensatory damages for personal injury and wrongful death are excludable from federal taxation if they arise from personal injury or sickness. Thus, in most personal injury and wrongful death cases arising from a personal injury or sickness, a settlement which includes only compensatory damages will not be subject to federal taxation.
One exception to that rule is if the taxpayer / plaintiff previously deducted medical expenses from her taxable income and then recovered those expenses in a personal injury or wrongful death case. In such cases, the taxpayer / plaintiff would have tax liability because she had previously gained a tax advantage from the deduction of the medical expenses and then was reimbursed for those expenses in a compensatory damages award.
Different rules apply to claims that involve purely emotional injuries (such as those alleged in defamation cases). Read the attached guide from the Internal Revenue Service for assistance. And, in unusual situations, seek the advice of a tax lawyer.