District Court Allows Exclusion for $2.5 Million in Punitive Damages

By Barton, Peter; Sager, Clayton | The CPA Journal, April 1993 | Go to article overview
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District Court Allows Exclusion for $2.5 Million in Punitive Damages


Barton, Peter, Sager, Clayton, The CPA Journal


In O'Gilvie v. U.S., 1992 WL 223847 (D. Kan.), a Federal District Court allowed an exclusion under Sec. 104(a)(2) for punitive damages received in a wrongful death suit. This ruling reversed a decision by the same court three months earlier. The reason cited for the reversal was the U.S. Supreme Court's recent decision in U.S. v. Burke, 112 S.Ct. 1867 (1992), interpreting Sec. 104(a)(2).

Sec. 104(a)(2) excludes from taxation "the amount of any damages received... on account of personal injury." The regulations specify that the injury must be based on a tort-type claim. The issue in O'Gilvie was whether the exclusion applies to punitive damages. Since 1984, the IRS, in Rev Rul. 84-108, 1984-26.0.32, has maintained that it does not since punitive damages are awarded to punish the wrongdoer, not to compensate the plaintiff for injuries. As such, they are a windfall to the plaintiff and are taxable.

Court cases on the taxability of punitive damages have had conflicting results. The most Important case, Miller v. Commissioner, 93 T.C. 330 (1989), involved the taxability of a defamation award. The Tax Court ruled, in a 16-2 reviewed opinion, that the punitive damages were excludable under Sec. 104 (a)(2) due to the plain meaning of "any" and "on account of." The 4th Circuit unanimously reversed, 914 F.2d 586 (4th Cir. 1990), finding that there must be both egregious conduct by the defendant and personal injury for punitive damages to be awarded. Therefore, the statute is ambiguous. The court than ruled that punitive damages are taxable because exclusions should be interpreted narrowly and punitive damages are a windfall, not compensatory Miller is binding on the Tax Court only in the 4th Circuit states of Maryland, the Carolinas, Virginia, and West Virginia.

In O'Gilvie, Mr. O'Gilvie's wife died of toxic shock syndrome. In 1988, he received punitive damages of $2,483,646 in a wrongful death suit. In its first opinion, 70 AFTR 2d 92-5069, the district court adopted the 4th Circuit's reasoning and ruled that the punitive damages were taxable.

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