Is disability income taxable?
The taxation of disability income depends on three main factors:
- What type of benefits you receive
- Whether the premiums were paid with pretax or post-tax dollars, and
- Who paid the premiums for the disability insurance
What type of benefits you receive
Individual/Group Policy: benefits follow the taxation rules in the next two main sections below.
Social Security Disability: follows the same taxation as regular social security income. More specifically, disability from Social Security is taxable if your modified adjusted gross income plus one-half of your Social Security benefit exceeds the base amount for your filing status.
Worker’s Compensation: benefits are not taxable while you’re away from work. However, if you continue to receive worker’s comp benefits after returning to work, then the benefit would be taxable. If part of your worker’s comp benefit reduces your Social Security benefit, then that part is considered to be a Social Security benefit. Therefore, it would follow the above rules regarding Social Security taxation.
Veteran’s Benefits: Disability received from the VA is not taxable, except for payments related to certain rehabilitative services.
Military Benefits: Most disability pensions are taxable. However, if disability resulted from injury/illness while on active duty, disability benefits may be tax free.
Pretax or Post-Tax Dollars
If you pay the premiums for an individual or group policy with post-tax dollars, the benefits you receive are tax-free.
If the premiums are paid with pretax dollars, the benefits are taxable as ordinary income.
Who paid the Premiums
Your benefits are tax free if you pay the total premium (using after-tax dollars, per above).
However, if your employer pays the total premium and does not include the cost of coverage in your gross income, then your benefits are taxable.
If you pay part of the insurance premium and your employer pays the rest, then your tax liability is prorated, according to the percentage of premium paid by you, versus the percentage paid by your employer, per the rules above.