Tuesday, September 8, 2015

Part of Disability Pension Taxable

Mr. Sewards worked for the sheriff’s department for 34 years when he retired on account of a service-connected disability.  Amounts received under a workers’ compensation act or “in lieu of workmen’s compensation” are not taxable.

Mr. Sewards received a 1099-R showing the gross amount of pension received in box 1 with the “not determined” box checked in Box 2 (taxable amount).  He excluded the entire amount of the pension from income on his tax return.

Upon examination IRS looked at the statutes under which Mr. Sewards was able to receive the pension income.  The statutes provided benefits if the taxpayer suffered a service-connected disability.  The statutes also provided benefits if the taxpayer had completed 20 years with the service.  In the case of a taxpayer who has both a service-connected disability and has met the 20 years test, the statutes provide the taxpayer would receive an annual guaranteed amount equal to at least 50% of his final compensation.  If the normal retirement pension calculation is higher than the service-connected disability, the taxpayer would receive the higher amount.

IRS took the position that the pension amount received in excess of the service-connected disability amount was taxable since this excess amount was connected to the taxpayer’s age, years of service, etc. and was not related to the service-connected disability.  Both Tax Court and the 9th Circuit Court of Appeals agreed with IRS.

Results – The pension representing the service-connected disability guaranteed amount is nontaxable while the excess amount, which was received due to nondisability factors is taxable.

Jay & Francis Sewards, 9th Circuit Court of Appeals, 2015-1, 12-72985

This text has been shared with you courtesy of David & Mary Mellem, EAs & Ashwaubenon Tax Professionals.

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