Q

Are disability insurance benefits taxable?

A

Disability insurance benefits are taxable if your policy premiums were paid with pre-tax dollars or by your employer.

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Disability insurance is protection against the financial burden of losing your income should you become disabled and can’t work. You pay for disability insurance by paying premiums, which vary depending on factors like your health history, financial situation, and the amount and type of coverage you need.

Benefits are paid monthly, usually at about 60% of the income you were earning before you became disabled. That amount comes close to matching your regular take-home pay, because disability insurance benefits from a policy you buy independently are not taxed. However, disability benefits are subject to tax if your premiums are paid by an employer.

Tax-free disability insurance benefits

Disability insurance benefits are tax-free as long as your policy was paid for with after-tax dollars. That prevents you from being taxed twice. While disability insurance benefits are meant to replace income, they are not classified as income for the purposes of reporting your taxes.

Employer-sponsored disability coverage

Many people get disability insurance through their employer. But, if your premiums for this policy are paid out of your pre-tax dollars, you’ll have to pay taxes on the benefits if you receive them.

Likewise, if your employer pays for all or part of the insurance premium, you’ll have to pay taxes on the benefits. The percentage of the benefit that is taxable is equivalent to the percentage your employer paid and any percentage of the premiums you paid with pre-tax dollars. (The amount you paid for in post-tax dollars is still tax-free.)

Employee-sponsored disability insurance benefits are considered a form of income; see below for the current federal income tax brackets.

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Takeaway

You won't pay tax on any disability insurance benefits you paid for with after-tax dollars.

Reporting disability insurance benefits on your tax return

You do not have to pay taxes on disability benefits you receive if you purchased your policy with after-tax dollars. But those who receive their policy through their employer may have to. Taxable disability insurance benefits are classified as “sick pay,” so if you anticipate receiving benefits, you have to submit IRS Form W-4S, titled “Request for Federal Income Tax Withholding From Sick Pay” to the insurance company. You can also make estimated tax payments using Form 1040-ES, “Estimated Tax for Individuals,” which you’ll file directly to the IRS.

If you start receiving taxable benefits, you need to include the amount of benefits you receive on your tax return as part of your salary or wages when you file. (That’s the “Wages, salaries, tips, etc.” line on Form 1040, 1040A, and 1040EZ.) As with reporting traditional wages and salaries, if the amount you paid in estimated tax (as reported on the 1040-ES) or via income tax withholding (as reported on the W-4S) is higher than what you actually owe, you’ll receive a refund. If you paid too little tax, you’ll have to pay more to make up the difference on Tax Day.

The IRS will let you deduct qualified out-of-pocket medical expenses if you’re eligible to itemize your deductions, so if your disability benefits cover medical care and you owe taxes on them, those medical expenses may negate the tax.

Tax rates for 2022

Tax rates are as follows, sorted by filing status:

Individuals

IncomeTax
$0 to $10,27510%
$10,275 to $41,77512%
$41,775 to $89,07522%
$89,075 to $170,05024%
$170,050 to $215,95032%
$215,950 to $539,90035%
$539,900 and up37%

Married filing jointly and qualifying widower/widow

IncomeTax
$0 to $20,55010%
$20,550 to $83,55012%
$83,550 to $178,15022%
$178,150 to $340,10024%
$340,100 to $431,90032%
$431,900 to $647,85035%
$647,850 and up37%

Married filing separately

IncomeTax
$0 to $10,27510%
$10,275 to $41,77512%
$41,775 to $89,07522%
$89,075 to $170,05024%
$170,050 to $215,95032%
$215,950 to $323,92535%
$323,925 and up37%

Head of household

IncomeTax
$0 to $14,65010%
$14,650 to $55,90012%
$55,900 to $89,05022%
$89,050 to $170,05024%
$170,050 to $215,95032%
$215,950 to $539,90035%
$539,900 and up37%