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U.S. 426, 429-430 (1955). Although section 61(a) is to be
broadly construed, statutory exclusions from income must be
narrowly construed. Commissioner v. Schleier, 515 U.S. 323, 327-
328 (1995).
Section 104(a)(2) excludes from gross income "the amount of
any damages * * * received (whether by suit or agreement and
whether as lump sums or as periodic payments) on account of
personal injuries or sickness". Section 1.104-1(c), Income Tax
Regs., provides that "The term 'damages received (whether by suit
or agreement)' means an amount received * * * through prosecution
of a legal suit or action based upon tort or tort type rights, or
through a settlement agreement entered into in lieu of such
prosecution." Thus, in order to exclude damages from gross
income pursuant to section 104(a)(2), the taxpayer must prove:
(1) The underlying cause of action is "based upon tort or tort
type rights", and (2) the damages were received "on account of
personal injuries or sickness." Commissioner v. Schleier, supra
at 336-337.
Where amounts are received pursuant to a settlement
agreement, the nature of the claim that was the actual basis for
settlement controls whether such amounts are excludable from
gross income under section 104(a)(2). United States v. Burke,
504 U.S. 229, 237 (1992). The crucial question is "in lieu of
what was the settlement amount paid." Bagley v. Commissioner,
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