If you are involved in a lawsuit and awarded damages, the IRS may require you to pay taxes on the funds you receive. It depends on whether the money can be considered income.
If the damages are awarded to compensate you for financial losses, the money theoretically makes you whole. Therefore, no taxes are due. However, if the damages are “punitive”—to punish the defendant beyond any of your financial losses—then you will most likely owe taxes on the income.
Some awards are a combination of the two, and there is the potential for any situation to be much more complicated.
And the Winner is You… and the IRS [MSN Money]
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