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exclusion and bring themselves “within the clear scope of the
exclusion.” Dobra v. Commissioner, 111 T.C. 339, 349 n.16
(1998).3
Section 104(a)(2), as in effect prior to its amendment in
1996,4 excludes from gross income “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., defines “damages received” as “an
amount received (other than workmen’s compensation) 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.”
For purposes of applying the above statutory and regulatory
text, the Supreme Court has established a two-pronged test for
ascertaining a taxpayer’s eligibility for the section 104(a)(2)
exclusion: “First, the taxpayer must demonstrate that the
underlying cause of action giving rise to the recovery is ‘based
upon tort or tort type rights’; and second, the taxpayer must
3 Because we decide the issue in this case without regard
to the burden of proof, sec. 7491 is inapplicable.
4 Sec. 104(a)(2) was amended by the Small Business Job
Protection Act of 1996, Pub. L. 104-188, sec. 1605, 110 Stat.
1755, 1838-1839, to exclude only amounts received on account of
personal physical injuries or physical sickness. We apply the
statute as in effect prior to the amendment because the Order,
pursuant to which the payment at issue was made, was issued by
the MSPB before Sept. 13, 1995. See id. sec. 1605(d)(2), 110
Stat. 1839.
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Last modified: November 10, 2007