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Without regard to which party bears the burden of proof, we
find and hold that the $25,000 is income to petitioner and that
none of the $25,000 constitutes damages received “on account of
personal physical injuries or physical sickness” within the
meaning of section 104(a)(2).2 We reject at the outset
petitioners’ reliance on Murphy v. IRS, supra. After the filing
of petitioners’ posttrial brief, the Court of Appeals for the
D.C. Circuit vacated its judgment resulting from that opinion and
reheard arguments on the case. Later, in Murphy v. IRS, 493 F.3d
170 (D.C. Cir. 2007), the Court of Appeals for the D.C. Circuit
held that the damages received by the taxpayer were income
included in the taxpayer’s gross income and were outside the
exclusion in section 104(a)(2). We agree without further comment
that the $25,000 is income to petitioner and limit our subsequent
inquiry to whether the $25,000 is excluded from their gross
income under section 104(a)(2).
Section 104(a)(2) is construed narrowly. See, e.g.,
O’Gilvie v. United States, 519 U.S. 79 (1996); Commissioner v.
Schleier, 515 U.S. 323, 328 (1995). Under section 104(a)(2),
settlement proceeds are excludable from gross income to the
extent: (1) The underlying cause of action is based upon tort or
2 We apply sec. 104(a)(2) as amended in 1996 by the Small
Business Job Protection Act of 1996, Pub. L. 104-188, sec. 1605,
110 Stat. 1838, effective generally for amounts received after
Aug. 20, 1996. That amendment, in relevant part, added the
modifier “physical” after “personal” and before “injuries”.
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