We paid an attorney settlement proceeds on behalf of a claimant. Do we send a 1099-MISC to both the attorney and the claimant, or does the attorney send one to the claimant?

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The claimant is the beneficial owner of the settlement, so if the settlement is taxable income to the claimant, then yes, you should issue a 1099-MISC to the claimant as well, even though his name was not on the check. He is the beneficial owner and is reportable, if the some or all of the settlement is reportable. You must, of course, also issue a 1099-MISC to the attorney, with the amount in box 14—that is correct. See Demystifying Form 1099 for Legal Settlements.

As for what kinds or parts of settlements are not reportable to claimants, according to tax attorney Denise Johnson, there are three types of damage awards that are not reportable because the IRS does not consider them taxable income:

• If the payment is for personal physical injury or sickness, such as a broken leg, it is not reportable. Personal injury does not include mental illness or emotional damages. Personal injury or sickness is narrowly defined in section 104 of the Internal Revenue Code.

• Reimbursement for medical expenses is not taxable, and therefore, is not reportable. However, if the claimant cannot produce receipts for his medical expenses, they are considered taxable damages, and the reporting obligation exists.

• Payments that are essentially for property damage claims are not reportable. However, they can be taxable if the settlement amount exceeds the original investment in the property.

Punitive damages are reportable.

For more on this, also see IRS publication 4345 – Settlements – Taxability.

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