Bad Events Can Result in Good Tax Outcomes

When things go bad, causing personal injury or even death, there often is monetary compensation from some source. Fortunately, the receipt of certain types of compensation arising from bad events is tax free. Take these two situations.

Wrongful Death

In one case, an individual was killed and his estate sued a government entity for damages based on a wrongful death claim. A court awarded compensatory damages, prejudgment interest, and punitive damages. Some time later, another government entity passed an act to provide compensation to the estate and others who suffered wrongful death or physical injury. The act voided the damages awarded by the court and precluded anyone from suing the first entity. The act set an agency to handle all claims and made a payment to this particular estate.

The IRS decided that amounts received by the estate through the agency in this case are derived from the wrongful death claim and, so, are tax free.

Disability

In another case, benefits paid to police officers and firefighters in local jurisdictions for job-related illnesses or injuries are excludable from gross income. Line-of-duty disability benefits, which in this case were payable for life or as a continuation to a survivor, are tax free.

However, a monthly supplemental benefit is taxable. This supplemental benefit is payable to anyone who suffers an illness or injury and who is at least 52 years old. The supplemental benefit is determined with reference to the number of years of service and not to the nature of the illness or injury.

Source: Letter Ruling 201025027