Most states do not tax workers' compensation, but a few do
Workers' compensation benefits are tax-free under federal law. However, a handful of states layer their own income tax on top of federal rules, and some of those states tax workers' compensation payments. The states that do tax workers' compensation are New Jersey, New York, and Wisconsin. In all other states, workers' compensation you receive stays off your state income tax return entirely.
The reason most states skip this tax is practical: workers' compensation already replaces lost wages at a reduced rate (typically 60 to 67 percent of your normal pay), and the money goes to someone who cannot work. Taxing it again would leave injured workers with even less. But New Jersey, New York, and Wisconsin have chosen to tax it anyway, though each state applies the tax differently.
Key Takeaways
- New Jersey, New York, and Wisconsin are the only states that tax workers' compensation benefits as state income.
- Federal law exempts workers' compensation from federal income tax, so these state taxes are added on top of that exemption.
- New York taxes only the portion of benefits that exceeds what you would have earned in unemployment insurance.
- If you receive workers' compensation in a state that taxes it, you will report the taxable portion on your state income tax return.
- The amount you owe depends on your total income for the year and your state's tax brackets.
How New Jersey taxes workers' compensation
New Jersey taxes workers' compensation benefits as ordinary income. If you receive a lump-sum settlement or ongoing weekly payments, the full amount counts toward your New Jersey taxable income for the year you receive it. You report this on your state income tax return using Form NJ-1040 or the appropriate form for your filing status.
The tax you owe depends on your total income and New Jersey's tax brackets for that year. If workers' compensation is your only income, you may owe little or nothing if you fall below the standard deduction. But if you have other income—wages, self-employment income, or investment income—the workers' compensation stacks on top of that, potentially pushing you into a higher tax bracket.
How New York taxes workers' compensation
New York takes a narrower approach. The state taxes only the portion of workers' compensation that exceeds what you would have received in unemployment insurance benefits. This means New York first calculates what your unemployment benefit would have been, then taxes only the amount above that threshold.
In practice, this often results in little or no state tax on workers' compensation, because the unemployment benefit calculation is usually close to what workers' compensation replaces. However, if you received a large lump-sum settlement or if your workers' compensation rate was significantly higher than the unemployment rate, the excess portion is taxable. You report this on your New York state income tax return.
How Wisconsin taxes workers' compensation
Wisconsin taxes workers' compensation benefits, but only if your total income exceeds a certain threshold. For the 2024 tax year, Wisconsin does not tax workers' compensation if your federal adjusted gross income is below the standard deduction for your filing status. Once you exceed that threshold, workers' compensation becomes taxable income.
Like New Jersey, the amount you owe depends on your total income and Wisconsin's tax brackets. If workers' compensation is your only income and you are below the standard deduction, you will owe no state tax. But if you have other income sources, the workers' compensation is added to your total and taxed accordingly.
What to do if you live in a state that taxes workers' compensation
If you receive workers' compensation in New Jersey, New York, or Wisconsin, keep detailed records of all payments you receive during the tax year. Your employer or the workers' compensation insurance carrier should send you a statement showing the total amount paid. This is similar to a W-2 form, though workers' compensation statements are not always labeled the same way across all carriers.
When you file your state income tax return, report the workers' compensation amount on the line designated for it. Most state tax forms have a specific line or schedule for workers' compensation income. If you are unsure where to report it, contact your state's tax department or consult a tax preparer familiar with your state's rules. Failing to report it can result in an audit or penalty, even though the amount may be small.
If your workers' compensation was paid as a lump sum in one year, all of it is taxable in that year, which can push you into a higher bracket. Some people in this situation find it helpful to work with a tax professional to understand the impact before filing.
How workers' compensation interacts with other income
Workers' compensation stacks with other income when calculating your state tax. If you received workers' compensation and also worked part-time, your state taxable income is the sum of both. This matters because it can push you into a higher tax bracket or reduce deductions you might otherwise claim.
In some cases, receiving workers' compensation can affect your may be able to access for other tax credits or deductions. For example, if your total income (including workers' compensation) exceeds the threshold for a particular credit, you may lose it. This is rare, but it is worth checking if you are close to an income limit for any credits you normally claim.
Frequently Asked Questions
Do I have to report workers' compensation on my federal tax return?
No. Federal law exempts workers' compensation from federal income tax entirely. You do not report it on your federal Form 1040, even if you live in a state that taxes it. The state tax is separate and only applies to your state return.
What if I received workers' compensation in one state but now live in another?
You report workers' compensation to the state where you received it, not where you currently live. If you moved from New York to Pennsylvania, for example, you still owe New York tax on the workers' compensation you received while in New York. However, you would not owe Pennsylvania tax on it, since Pennsylvania does not tax workers' compensation.
If I received a lump-sum settlement, is all of it taxable in the year I received it?
Yes, in New Jersey and Wisconsin. The entire lump sum is taxable income in the year you receive it. In New York, only the portion exceeding the unemployment benefit threshold is taxable. This can result in a large tax bill in a single year, so some people consult a tax professional beforehand.
Can I deduct medical expenses related to my workers' compensation injury?
No. Workers' compensation covers medical expenses directly, so you cannot deduct them again on your tax return. You can only deduct medical expenses that workers' compensation did not cover, and only if you itemize deductions and meet the threshold for medical expense deductions on your federal return.
What if the workers' compensation carrier did not send me a statement?
Contact the carrier and request a statement showing all payments made to you during the tax year. You need this to report the correct amount on your tax return. If the carrier cannot provide it, contact your state's workers' compensation board or your state tax department for guidance on how to report the income.