Unlike compensatory damages, punitive damages are not awarded to petitioners in order to compensate for the loss that they had to suffer because of an offence. Instead, punitive damages are awarded to reform or discourage the defendant and others from engaging in offences similar to that, which formed the basis of the lawsuit. These are meant to punish the defendant and hence the amount to be paid is usually higher than the actual losses caused following the offence.
While compensatory damages are paid to help the petitioner recover from various financial losses, punitive damages are in paid in excess and the petitioner will receive all or some portion of the punitive damage reward. Hence, even though compensatory damages are not taxable, punitive damages are. A brief discussion on “What are punitive damages” follows.
Compensatory versus Punitive damages
Compensatory or “actual” damages are the financial damages paid after carefully calculating the total amount of loss following the incident in the lawsuit. However, as explained before, punitive damages are not exact calculations. They are inflated to punish the defendant.
Taxation in Punitive Damages
The Small Business Job Protection Act of 1996 states that all punitive damages are taxable except for the punitive damages awarded in a civil court for wrongful death lawsuit cases. This is to ignore the involvement of financial deductions from the damages awarded following the death of a person. It would be unethical and unjustified to take tax from a case that involves the loss of human life after all.
Taxation in Corporate cases
In 2010, the Obama Administration proposed a controversial amendment to the punitive damage taxation law, which stated that corporate companies would not be able to receive tax deductions on the punitive damages they pay to a petitioner. This caused an uproar from companies who claimed that these amounts were used for helping the society in various ways. They stressed on the hardships they were already facing due to recession.
Taxation for Plaintiffs
The punitive damages received by a petitioner following injury or sickness cannot be taxed. This is owing to the fact that physical harm and pain caused to a person cannot be compensated by money. This means that on plain humanitarian grounds, the person who has suffered damages be it emotional or financial, should not be taxed.
Hope the discussion on “What are punitive damages” was easy to understand. Refer law books for the proper definitions of and amendments to these laws.