The IRS rule
IRS Publication 525 says that amounts you receive as workers' compensation for an occupational sickness or injury are fully exempt from tax if they are paid under a workers' compensation act or a statute in the nature of a workers' compensation act. The exemption also applies to your survivors.
That covers the weekly checks you receive while you are off work, permanent disability awards, and death benefits paid to dependents under a workers' compensation law.
Three exceptions
- The Social Security offset. If part of your workers' compensation reduces your Social Security or equivalent railroad retirement benefits, that part is treated as Social Security benefits and may be taxable.
- Retirement plan benefits. The exemption does not cover retirement plan benefits based on your age, length of service or prior contributions, even if you retired because of a work injury.
- Pay for light duty. If you return to work after qualifying for workers' compensation, salary for performing light duties is taxable as wages.
A disability pension paid under a law that covers only service-connected disabilities can be partly workers' compensation. That part is exempt; the rest, based on years of service, is taxable as pension income.
If you also receive Social Security disability
Social Security reduces disability benefits when workers' compensation and Social Security disability together exceed a limit, generally 80% of your average current earnings. The amount of workers' compensation that caused the reduction is treated as a Social Security benefit for tax purposes, which is how part of an otherwise tax-free benefit can end up taxable. See workers' comp and SSDI for how the offset works.
Settlements and lump sums
A settlement paid under a workers' compensation act falls under the same exemption as weekly benefits. If you also receive Social Security disability, the Social Security Administration prorates a lump sum over time before applying the offset, so the wording of the settlement can matter. Have an attorney review it before you sign.
Frequently asked questions
Do I have to report workers comp on my tax return?
Workers' compensation paid under a workers' compensation act is fully exempt from federal income tax, so it is generally not reported as income. The exception is the part that reduced your Social Security disability benefits, which is treated as Social Security and may be taxable.
Is a workers comp settlement taxable?
A lump sum paid under a workers' compensation act is covered by the same exemption as weekly checks. The offset rule can still apply if you also receive Social Security disability, because Social Security spreads a lump sum over time to apply the offset.
Is light duty pay taxable while on workers comp?
Yes. IRS Publication 525 says that if you return to work after qualifying for workers' compensation, salary payments for light duties are taxable as wages.
Are workers comp benefits taxable at the state level?
This guide covers federal income tax. Check your state revenue department for state income tax rules.
Sources
Checked November 3, 2026.