Settlement money planning

What to do with settlement money: a practical first-year plan.

A large settlement creates a narrow, high-stakes planning window. Irreversible decisions — how funds are deposited, whether a structured settlement is accepted, how family requests are handled — often happen in the first weeks, before a financial plan exists. The goal of this guide is to give you a clear sequence of steps so the most important decisions happen in the right order.

Step 1: Bank the funds safely

Large settlements often arrive as a single wire. The standard FDIC deposit insurance limit is $250,000 per depositor, per bank, per ownership category.¹ A $2M settlement deposited into a single checking account is $1.75M uninsured from the moment it arrives.

Practical options for protecting funds above $250,000:

• Spread across multiple FDIC-insured banks. Each bank is separately insured up to $250,000 per ownership category. A single depositor can use individual accounts at three banks to cover $750,000.
• Use different ownership categories at the same bank. Individual, joint, and certain trust accounts are each separately insured. A payable-on-death account naming five or more beneficiaries can be insured up to $1,250,000 at a single bank under updated FDIC rules effective April 2024.¹
• Treasury money market or T-bills. U.S. government-backed instruments are not subject to FDIC limits. Short-term T-bills or a Treasury money market fund can hold large amounts safely while you plan.
• Cash management accounts (CMAs). Some brokerage firms sweep deposits across multiple partner banks, providing coverage well above $250,000.

The priority in the first week is safety and liquidity, not return. A few basis points of yield are not worth credit risk while you're still organizing a plan.

Step 2: Check whether public benefits are affected

If you or a family member receives Supplemental Security Income (SSI) or Medicaid, a settlement can disqualify you if not handled correctly. The SSI countable resource limit is $2,000 for an individual and $3,000 for a couple — unchanged since 1989.² A settlement deposited directly into a personal account can push resources above that limit immediately, triggering a loss of benefits.

If public benefits apply, this step cannot wait. A first-party (self-settled) special needs trust — sometimes called a "d4A trust" after 42 U.S.C. §1396p(d)(4)(A) — can hold settlement proceeds without counting as a resource for SSI and Medicaid purposes, as long as it is established properly before or shortly after funds arrive. The trust must:

• Be established by a parent, grandparent, legal guardian, or court for a beneficiary under age 65.
• Contain a Medicaid payback provision at the beneficiary's death.
• Be approved by your state's Medicaid agency or administered correctly.

Medicare set-asides are a related consideration when Medicare has paid injury-related medical costs: CMS expects that a portion of a workers' compensation or liability settlement be set aside for future injury-related Medicare-covered expenses. If Medicare coverage is at risk, your attorney and a Medicare Set-Aside professional should review the settlement before it closes.

If none of these programs apply, you can skip this step — but verify with your attorney first.

Step 3: Understand the tax treatment of your settlement

Tax treatment depends on what the settlement compensates, not simply that it came from a lawsuit.

Physical injury and wrongful death proceeds — generally tax-free. Under IRC §104(a)(2), the proceeds of a personal physical injury or physical sickness claim are excluded from federal gross income.³ This applies whether you receive a lump sum or structured payments. Structured settlement annuity payments established via qualified assignment under IRC §130 retain the same §104 exclusion, meaning guaranteed payments arrive tax-free.⁴

Investment income on proceeds is taxable. Once a lump sum is received, any interest, dividends, or capital gains it earns are ordinary taxable income (or capital gains). The exclusion covers the settlement itself — not what it earns afterward.

Non-physical injury settlements are often taxable. Employment discrimination, defamation, intentional infliction of emotional distress (absent physical injury), and punitive damages generally do not qualify for the §104 exclusion. Confirm your specific settlement type with your attorney and CPA before assuming tax-free treatment.

Knowing the tax treatment matters before choosing between a lump sum and structured payments, and before deciding how to invest lump-sum proceeds.

Step 4: Build a liquidity reserve before investing anything

A liquidity reserve is the portion of the settlement that lives in cash or near-cash, available without investment risk, covering known short-term needs:

• Housing costs, accessibility modifications, medical equipment, or care not yet funded.
• Any pending legal costs, attorney fees not yet collected, or liens being resolved.
• Living expenses and income replacement for 12–24 months while a long-term plan is built.
• A "family boundary" reserve — a defined pool to draw from for requests, gifts, or loans without touching the long-term investment portfolio.

There is no universal reserve amount. A settlement that must support a catastrophically injured person's lifetime care needs a much larger liquid buffer than a healthy 40-year-old with no dependents. A financial advisor can model the scenarios specific to your situation.

Step 5: Write an investment policy before buying any products

Most product solicitations — annuities, whole life insurance, real estate opportunities, private placements — arrive before you have a plan. The investment policy statement (IPS) is a simple document that answers four questions before anyone shows you a product:

1. What is this money for? (Retirement income, long-term care, supporting dependents, legacy, a combination.)
2. When will it be spent? (The time horizon determines how much volatility is appropriate.)
3. How much risk is acceptable? (A settlement that must support lifetime care cannot tolerate the same drawdown as discretionary wealth.)
4. What is off-limits? (No illiquid investments for the first X years; no more than Y% in any single position; no leverage.)

With an IPS, you have a documented standard to hold each product recommendation against. Without one, you are making individual product decisions without a framework — which is how settlements get fragmented.

Step 6: Set a family boundary before announcing the settlement

Once family members learn about a settlement, informal requests for gifts, loans, and business investments begin immediately. Most recipients find it harder to say no to family than to a stranger. The sequence that works:

• Agree in advance — with yourself and any co-decision-makers — on the total amount available for family gifts over the next two years.
• Designate a "family reserve" account specifically for those gifts. When that account is depleted, the answer is no — not because you are refusing but because the reserve is gone.
• Create a waiting period for requests: any loan or gift request over a threshold requires 30 days before a decision. This alone eliminates most urgency-driven mistakes.

This is not about being ungenerous. It is about protecting long-term security so the settlement accomplishes its primary purpose.

Step 7: Coordinate the professional team

No single professional can handle all dimensions of a large settlement. The advisors who should be in the room before major decisions are final:

The financial advisor should not be the last person in the room. For settlements above $500,000, involving a fee-only advisor before the settlement closes — while structured settlement terms can still be negotiated — often produces better outcomes than arriving after the lump sum is already wired.

Common first-year mistakes

• Depositing everything in one account. Leaves funds above $250,000 uninsured (see Step 1).
• Spending a large amount in the first 90 days before understanding what the settlement must cover long-term.
• Buying a product before writing an investment policy. The product decision becomes the de facto policy.
• Not checking public benefits eligibility before funds arrive, when a special needs trust is still possible.
• Confusing tax-free settlement proceeds with tax-free investment income. The exclusion doesn't extend to what the money earns.
• Making the structured settlement decision alone. The lump-sum vs. structure choice involves tax, longevity, care needs, and investment discipline — it requires a team, not a gut call.

Also see: Structured settlement vs lump sum — planning tradeoffs · Structured settlement calculator · First-90-day checklist · Settlement windfall guide