Medical Settlements

My wife is about to settle a lawsuit with a hospital that made a huge
mistake to her body. She needs this money because she is not able to
work full time due to the mistake.

The CSS Profile (and possibly the FAFSA form) has a line item for
stating your "nontaxable income". I believe that medical settlements
are nontaxable incomes. Is this true or are they NOT considered
"income"?

Do I have to put my wife's settlement money in this box? If so, will
the colleges expect us to use this money for college? There is no
place to explain that this money is NOT a luxury, but a necessity and
we NEED it to pay living expenses.

Should we have the hospital pay us in annual payments of smaller
quantities or one lump sum?

How do we shelter this money so colleges don't think it's our savings
for a vacation or something?

Thank you.