Paul L. Caron

Thursday, November 18, 2010

IRS's Wrongful Imprisonment Ruling Stirs Controversy

IP Following up on last month's post, Why Do We Tax Recoveries by Prisoners Freed From Wrongful Imprisonment? (Oct. 28, 2010): Forbes, Wrongful Imprisonment Tax Ruling Stirs Controversy, by Robert W. Wood (Wood & Porter, San Francisco):

[P]eople have been gleefully emailing me ... Chief Counsel Advice 201045023.  Everyone seems to be reading it by the headline the tax press is (inappropriately) giving it, proclaiming “wrongful conviction recoveries are now tax free!” 

Since I’ve long argued for this view, I hate to be a killjoy.  Unfortunately, that’s not what it says—not by a long shot.  In fact, this IRS ruling says only that a victim of wrongful imprisonment who “suffered physical injuries and physical sickness while incarcerated” can exclude his recovery from taxes and can structure it just like other physical injury victims.  We already knew that. ...

The IRS issued a series of rulings in the 1950s and 1960s, involving prisoners of war, civilian internees and holocaust survivors.  Sensibly, the IRS ruled their compensation was tax free irrespective of whether they suffered physical injuries.  Then the IRS “obsoleted” these rulings in 2007, suggesting the landscape has changed. 

The IRS has still not addressed whether being unlawfully locked up is itself tax free.  This is a worry, since the Tax Court (affirmed by the Sixth Circuit) dangerously held in Stadnyk that persons who step forward saying they didn’t experience physical injuries or physical sickness will have a taxable recovery.  Stadnyk was a very short term incarceration case, but it may portend continuing adherence to the IRS canard that “there must also be physical injury.”

It is wrong as a matter of tax policy and as a matter of social justice to tax these recoveries.  It is also wrong to leave this area of the tax law to develop piecemeal so some people are paying tax.  The continuing myopic focus on the accompanying injuries or sickness will foment tax disputes about these issues.

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The wrongfully locked up person would have paid taxes while he was out and about. These are their share of taxes he would have paid during those times. They have just had time to accumulate.

Posted by: Kindoftall | Nov 21, 2010 6:55:42 AM

No matter the circumstances,wrongful imprisonment being one of the most egregrious that a person could experience, the Federal cancer must always extort from people. I could not give a damn what the IRS code section or some clown in a Halloween costume, aka judge, rules. The person who was wrongfully incarcerated is owed the money for the horrors suffered. The person paid a "tax"--the tax was loss of years of one's life and the subjection to prison all because some dumbbell prosecutor(s), dumb judge, and most of all--imbecile jurors could not get the verdict correct.

The money received by such a poor soul should be left alone, as the government took enough from that person wrongfully imprisoned. This person paid a tax, his or her years wasted for nothing.

Posted by: Barry | Nov 19, 2010 7:05:53 PM

You miss the point on the "series of rulings in the 1950s and 1960s, involving prisoners of war, civilian internees and holocaust survivors." Those rulings were flatly wrong. "Gross income" is described by section 61 of the IRC. Congress wrote section 61, not the IRS. There is no exception to the definition of gross income for a person's income received by virtue of that person's status as a POW, civilian internee, or holocaust survivor. The IRS can no more excuse income from coverage under section 61 than it could include income not described in section 61. The job of the IRS is to enforce the law as written, not to make exceptions to the statutory law based on its own perceived policy of the moment. If Congress wants to except income received by wrongfully incarcerated persons from section 61, it knows how to do so. Don't blame the IRS.

Posted by: Publius Novus | Nov 19, 2010 7:49:56 AM