Lemon law settlement taxable?

[skylinegtr2022]

Still a little confused with Lemon law settlement tax. I'm receiving a lemon law settlement of about $27000 where $9,000 is going to the attorney. The value of the vehicle is currently $18,000 (Trade in value) and I Originally paid $43000 1.5 years ago with all taxes and fees. Is that $18000 taxable?

[PatriciaV · Accepted solution]

It depends. A lemon law settlement is only taxable for the part that exceeds your loss, which is the amount you paid compared with the fair market value of the 'lemon' at the time you bought it. 

Subtract the fair market value from $43,000 and compare the result to the $27,000 you received. If your loss is less than $27,000, then the excess would be taxable. Note that legal fees are not deductible.

[skylinegtr2022]

Thank you! I don't have to report this on my tax this year since I recently settled. When I file my tax next year,  do I subtract the fair market value what the car is worth now or the fair market value when I file tax next year? What happen if I trade-in my car? And the trade-in value is less than selling the car privately. I can't sell the car because the Fair Market Value is a lot less than what I owed on the loan.

[PatriciaV]

You need the adjusted fair value due to the "lemon" status of the vehicle. Your settlement paperwork may include this value. It doesn't matter what you do with the vehicle. The settlement is reported in the year when you receive the payment, with no effect on future tax years.

[skylinegtr2022]

@TurboTaxPatriciaV Got it. Thank you!

[jenna6]

We just won a lemon law case for our car. We won $83,000, but only walked away with $60,600 and had to return the vehicle. We are trying to figure out if any of that is going to be taxed?

Here is the breakdown: Taking into consideration your total sales price, mileage offset, Mfg Rebate, and incidental damages your actual damages are $27,000.

Accordingly, there are $56,000 in additional damages here ($83,000 - $27,000). As explained, the additional damages have a 40% contingency fee per your retainer agreement. $56,000 x .4 = $22,400.

Therefore you will receive $27,000 + $33,600 ($56,000 - $22,400) = $60,600. 

Lawyers will receive $22,400.00 + a motion for our attorney’s fees, costs and expenses.

Thank you!

[lissnad23]

I won the settlement. I bought a Van and I paid 10000 during a year then with the settlement I got back my 10000. so Only one year used the market value was higher. then, I guess this $10000 is not taxable but I got a 1099-misc how using turbotax can I do to don't declare ?

[RobertG]

A lemon law settlement is only taxable for the part that exceeds your loss, which is the amount you were paid compared with the fair market value of the 'lemon' at the time you bought it. 

You need to report the 1099-Misc income to avoid getting correspondence from the IRS.

So you should enter it twice, once as a positive number, and once as a negative number to offset the income.

1. To report the income in TurboTax, enter 1099-Misc in the search box
2. Select Jump to 1099-MISC
3. Enter the information from the 1099-Misc
4. On the Does one of these uncommon situations apply? page select This was money from a lawsuit settlement
5. You will then be asked Do either of you have another 1099-MISC? Say no.
6. To offset this income go to Income and Expenses
7. Under less common income, select Miscellaneous Income, 1099-A, 1099-C.
8. Under Miscellaneous Income, 1099-A, 1099-C, select Other reportable income.
9. You will be asked for a description and amount, enter the lawsuit amount as a negative number to offset the gain.

The income, and the offset to income should appear on Schedule 1 line 9.

[abauman10]

Hello,

I am currently in the same situation you were in. Did you ever receive clarification on what your tax liability was? Were you taxed on the full $56,000 of additional damages or just the take home amount of $33,600? Thank you. 

[JoshinSD]

Question.  I won a lemon law settlement of 30,000.  10,000 went to the attorney for fees and 20,000 went to me.  I was able to keep the car.  I originally bought the car for 18,000.  What do I pay tax on? 

[JoshinSD]

Question.  I won a lemon law settlement of 30,000.  10,000 went to the attorney for fees and 20,000 went to me.  I was able to keep the car.  I originally bought the car for 18,000.  What do I pay tax on? 

[malcoman]

I have a lemon law settlement of 20,000. The original cost of the vehicle was 34,000. How do I report this so that the IRS does not come calling? I believe I don't owe anything since my settlement is less than the original cost. 

[malcoman]

@RobertG  I received a settlement of $20,300 on a lemon law lawsuit. My cost of the vehicle was $34,200. So, if I do it as you are suggesting, would that confuse the IRS? I put the $20,300 in the 1099-MISC, and under the Miscellaneous Income, I put -$20,300. It zeroed out the amount due, but I am concerned that it might trigger the IRS to wonder what's up. I also did not get anything from the manufacture except the stub showing they paid me.  I also did not enter the original cost of the vehicle being $34,200 anywhere to show offset. Any help would be great. 

[LenaH]

You have sufficient evidence of where the proceeds came from since you had a lawsuit; you do not need anything further from the manufacturer. If it ever was questioned or asked about by the IRS, your legal documentation and court documentation would be more than enough to satisfy their inquiry. 

Lemon law settlements are only taxable for the portion of your settlement received that exceeds your loss. You gave your figures of the settlement and the original cost of the vehicle, but not the fair market value of the vehicle at the time you bought it. 

Use this formula to confirm it should be non-taxable:

PURCHASE COST (34,200)

- FMV OF "LEMON" 

=  LOSS 

Now compare the loss figure above to the settlement you received. Any amount over the $20,300 received is taxed. If your loss exceeds the amount received, then it is non-taxable. 

If there is a portion of it that is taxable, then just adjust your negative number input in your Miscellaneous Income section so you are only being taxed on the correct amount. 

Please comment back with any further questions and we will assist you further. 

@malcoman

[pjcremeens]

How do you calculate the fair market value of a lemon at the time of sale? There is no market for defective new cars and outside of hiring an expensive expert witness, it would seem impossible for a layperson to calculate with any degree of precision. Any insight would be appreciated!