How to File Taxes on a Long-Term Disability Lump Sum
Calculating the taxable amount of your disability benefits can be a daunting task. If your lump sum claim is from a private or corporate source, one set of rules applies. If your lump sum is from Social Security disability income, then different calculations are used.
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Instructions
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Calculating taxability of corporate or private disability benefits is easy. If you paid for the insurance premiums out of your own pocket and did not deduct them in any way, then all proceeds, lump sum or otherwise, are tax-free. If your employer paid the premiums or you deducted them on your tax return, then they are taxable as ordinary income.
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If you received a lump-sum SSDI benefit, remember that this amount is retroactive to previous years. But whatever you do, don't count the entire amount as income in the year it is received. If you do, you will pay taxes on this income that you don't need to pay.
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Look carefully at your Form SSA-1099. It will show the entire amount of SSDI paid for the year in box 3, but it should also break down this amount into taxable and nontaxable portions. It will also list the years to which the retroactive portion of the payment apply. You must therefore report the entire amount on your current return, but not all of it will be taxable.
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There are a series of worksheets in IRS Publication 915 that you can use to determine the taxable portion of your SSDI for previous years, but lots of luck getting that right by hand. Buy some computer software or hire a tax professional to calculate this number for you. Remember that any costs you incur here are deductible.
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Remember also to take an itemized deduction for any amount that you were required to repay to your commercial disability insurer as a result of receiving your SSDI lump sum benefit. You should probably use a professional for this as well.
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Tips & Warnings
For more information on taxation of disability benefits, visit the IRS website at IRS.gov and download Pub. 915.
This information is intended for general financial educational purposes only, and it should not be construed as tax or financial advice. If you have further questions, consult your tax or financial advisor.
