If the court has awarded you a large sum for an injury as the result of a lawsuit, one thing you should consider is a structured settlement. These arrangements can have major tax advantages, but it is important to consider the pros and cons to decide if it is right for you.
A structured settlement is an installment payment plan, which divides your settlement into payments over time instead of a lump sum payout. You might be thinking—Why wouldn’t I want my money up front? There are two important reasons:
- Settlements for injuries are meant to cover a lifetime of care for the injured person. Mismanagement of a large lump sum can result in you running out of money and not having the means to care for yourself.
- If the lump sum is invested, the interest earned is typically subject to taxes and a large settlement may make you ineligible for government programs.
In 1982, Congress amended the tax code to make special provisions for structured settlements as the result of physical injury. This legislation allows a person to use all or a portion of their settlement to purchase a tax-free annuity thereby guarantying future payments at a significant tax savings.
How works
A structured settlement is created by purchasing one or more annuities. Installments can be arranged in many different ways based on your needs. For example, it might make sense to have a larger initial payment to cover a sizable immediate expense followed by smaller regular installments. This might be appropriate if you need to make large-scale renovations to your house to accommodate your special needs or purchase a wheel chair van.
Many people opt for the purchase of a life annuity to insure their long-term financial security. These plans guarantee a minimum specific number of payments over a guarantee period, but continue to pay out for your lifetime. With a life annuity, you do not need to worry about outliving your payments.
The goal of the installment plan should be to meet your needs for long-term care and provide for your living expenses.
That said, structured settlements are very flexible and by working with an experienced attorney, you can design a plan specific to your situation and needs. You can find more information on the options available in this Structured Settlements Guide.
Advantages
· Payments that are exempt from income taxes. You are likely to save upwards of 25% in taxes on interest earned.
· Guaranteed payments overtime to cover your long-term care and living needs.
· May enable you to remain eligible for government assistance programs like Medicaid and Medicare.
· Protection from others who will inevitably ask you for money if you have a large lump sum.
· Protection from yourself overspending and outliving your settlement.
Disadvantages
· A structured settlement, once set up, is not flexible. You will not be able to change the terms.
· You cannot borrow against a structured settlement.
· If not set up properly a structured settlement may make you ineligible for government assistance programs like Medicaid and Medicare.
· Structured settlement buy-outs are not legal in all states—and result in a substantial loss on the initial award amount.You can learn more about this here.
Structured settlements are a good way for those who are seriously injured to better manage their long-term care and provide for their financial security. However, it is very important to consult with an experienced attorney to help you with the process. If a structured settlement is set-up incorrectly, you will lose many if not all of its potential advantages. When set-up correctly, a structured settlement can provide the financial stability and peace of mind you need.