Injury Compensation Exclusion Rules Tricky
The recent decision of the Eleventh Circuit Court of Appeals in the case of Ahmed v. Comm warns taxpayers of the importance of minding their P’s and Q’s in structuring settlement disputes which involve compensation for physical injury so as to achieve the desired tax result.
Section 104 of the Internal Revenue Code provides that gross income does not include the amount of any damages (other than punitive damages) received (whether by suit or agreement and whether as lump sums or as periodic payments) on account of personal physical injuries or physical sickness. Emphasis on the word “physical.”
Seems our friend Syed A. Ahmed filed a lawsuit against Fulton County, his former employer, alleging numerous claims, including constitutional violations, discrimination, and retaliation, based on his race, religion, and national origin and also alleging the harassment he suffered during his employment contributed to a heart attack.
He later entered into a settlement agreement, which indicated that it encompassed all claims arising from his civil action, including “any and all real or perceived claims, obligations, promises, demands, rights, damages, costs, losses, suits, actions, attorneys’ fees and expenses of any nature whatsoever which Ahmed may have or have had, or may later claim to have had, against any of the Fulton County releasees for personal injuries, contractual damages, losses and damage to personal property, or any other losses or expenses of any kind.”
Pretty broad declaration.
He later testified that he “settled the case because of physical injuries,” and excluded the settlement amount from income when he filed his return.
The Tax Court found that although the settlement agreement did reference “personal injuries,” in a “boilerplate list” of all the claims from which he agreed to release Fulton County, the settlement agreement did not specifically allocate any portion of the payment to compensate him for physical injuries. Moreover, as part of the settlement agreement, Ahmed agreed to retire from his employment, which suggests that at least part of the settlement payment should be considered as (taxable) severance pay!
And the Eleventh Circuit agreed. Ahmed loses the argument.
And if you live in Cuba, get ready for the latest and greatest – and long overdue, apparently – socialist policy: income taxation!
We hear that come January 1, at the behest of President Raul Castro, cometh the first income taxation experienced in Cuba since the 1959 revolution! And as noted by Reuters, “the government also envisions replacing subsidies for all with targeted welfare, meaning that the largely tax-free life under a paternalistic government is on its way out.”
The new tax code, indeed, covers some 19 taxes, including inheritance, sales, transportation, various license fees, and social security.
Taking a page from Obama’s book, Havana economist Isabel Fernandez observes, “They collect taxes for all these things around the world. It’s normal.”
There you have it.
CONSULT YOUR TAX ADVISOR – This article contains general information about various tax matters. You should consult your CPA regarding the implications to your own particular situation.
Jeff Quinn, the author of this article, is a shareholder in Ashley Quinn, CPAs and Consultants, Ltd., with offices in Incline Village and Reno. He can be reached at 831-7288, welcomes comments at firstname.lastname@example.org, and invites readers to consider his other commentary at http://blog.nolo.com/taxes.