Taxation of Personal Injury Awards As a bankruptcy lawyer I frequently deal with people who have been injured in accidents, and some of them are able to bring lawsuits to recover damages based on the injuries. One advantage that many people do not realize they have in this situation, is that damages received in a lawsuit for a personal injury are not subject to income taxes. Like what seems to be the case with all tax rules however, there are specific rules that need to be followed. The payment has to be paid for compensation of the injury, which means that punitive damages are fully taxable. Emotional distress is not considered a personal injury, but if the emotional distress is caused by an injury or sickness the non punitive damages for emotional distress will be excluded from taxable income. The exclusion also applies to recoveries of any medical expenses attributed to emotional distress.