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Wrongful Incarceration FAQs

In the Protecting Americans from Tax Hikes Act of 2015 (PATH Act), Congress added a new exclusion from income under section 139F of the Internal Revenue Code.  Under this new exclusion, a wrongfully incarcerated individual does not include in income any civil damages, restitution, or other monetary award received that relates to his or her incarceration for the covered offense for which he or she was convicted (Wrongful Incarceration Exclusion). 

Q1:      Does the Wrongful Incarceration Exclusion also apply to compensatory or statutory damages and restitution that a wrongfully incarcerated individual receives in a criminal matter?

A1:      Yes.  The Wrongful Incarceration Exclusion also applies to compensatory or statutory damages and restitution that a wrongfully incarcerated individual receives in a criminal matter that relates to his or her incarceration for the covered offense for which he or she was convicted.    

Q2:      Who is a wrongfully incarcerated individual under the Wrongful Incarceration Exclusion? 

A2:      A wrongfully incarcerated individual is an individual who was convicted of a covered offense, served all or part of a sentence of imprisonment relating to the covered offense, and meets any one of the following three requirements:

    1. The individual was pardoned, granted clemency, or granted amnesty for that covered offense, because the individual was innocent of that covered offense; or

    2. The judgment of conviction for the individual for that covered offense was reversed or vacated and the indictment, information, or other accusatory instrument for that covered offense was dismissed; or

    3. The judgment of conviction for the individual for that covered offense was reversed or vacated and the individual was found not guilty at a new trial after the judgment of conviction for that covered offense was reversed or vacated.

Q3:      What is a covered offense?

A3:      A covered offense is any criminal offense under federal or state law, and includes any criminal offense arising from the same course of conduct as that criminal offense. 

Q4:      Does the Wrongful Incarceration Exclusion apply to an award a wrongfully incarcerated individual received in prior tax years, as well as to an award he or she receives in the current year or in the future?

A4:      Yes.  The Wrongful Incarceration Exclusion applies to an award that a wrongfully incarcerated individual received in any prior tax year, as well as to an award he or she receives in the current year or in the future.

Q5:      This rule is a new income exclusion provision, so what can an individual who received an award in a prior year and included it in income for the prior year do to take advantage of this exclusion?

A5:      A wrongfully incarcerated individual, who in a prior year included in income an award and who wants to claim a refund for the overpayment of tax related to the award included in income that meets the requirements of the Wrongful Incarceration Exclusion, must file an amended federal income tax return (Form 1040X) for that prior year and claim a refund.  However, a wrongfully incarcerated individual must file this claim for refund by a specific deadline. See FAQ 6.

Q6:      What is the deadline for a wrongfully incarcerated individual to claim a refund of an overpayment of tax for an award included in income in a prior tax year that qualifies for the Wrongful Incarceration Exclusion?

A6:      The wrongfully incarcerated individual must file the claim for refund within three years from the date the individual filed the income tax return that previously reported the award or two years from the date the individual paid the tax on the award, whichever is later.  However, Congress provided a special provision permitting wrongfully incarcerated individuals to file a refund claim even if the claim does not meet either the three-year or two-year deadline.  A wrongfully incarcerated individual who cannot meet the three-year or two-year deadline and who is relying on this special provision must file his or her claim for refund by Monday, December 19, 2016. 

Q7:      What is the procedure for filing the claim for refund of an overpayment of tax for an award that qualifies for the Wrongful Incarceration Exclusion?

A7:      The wrongfully incarcerated individual must file the claim for refund on an amended federal income tax return (Form 1040X) for the tax year the award was reported as income and write “Incarceration Exclusion PATH Act” across the top of the Form 1040X.  

Q8:      What documentation should a wrongfully incarcerated individual submit with his or her amended federal income tax return (Form 1040X) to substantiate the claim for refund?

A8:      The Form 1040X must include two different types of documentation.  The first type of documentation must establish that the award was previously reported in income, when it was reported, and in what amount.  Examples of such documentation include copies of federal income tax returns, Forms 1099-MISC (Miscellaneous Income), and any other retained records relating to the reported income.  However, if a wrongfully incarcerated individual no longer has documentation establishing that he or she previously reported the award in income, then he or she must submit a written statement affirming that the income was reported and that he or she no longer has relevant records.  The second type of documentation must establish that the award was made on account of the wrongful incarceration.  Examples of such documentation include copies of federal or state court orders awarding the compensation, signed settlement agreements accepting the amount of the award, and letters by governmental agencies or private payment sources that may have accompanied the payment of the award that include an explanation of the reason for the payment.

Q9:      Where should a wrongfully incarcerated individual file an amended federal income tax return (Form 1040X) to claim a refund of an overpayment of tax for an award that qualifies for the Wrongful Incarceration Exclusion?

A9:      The wrongfully incarcerated individual must file the amended return (Form 1040X) on paper by mail to the following address:

IRS
333 W. Pershing
Stop 6503 5th Floor
Kansas City, Mo 64108

Q10:    May a wrongfully incarcerated individual who previously was denied a refund or exclusion from income for an award that qualifies for the Wrongful Incarceration Exclusion apply for a refund?

A10:    Yes.  A wrongfully incarcerated individual who was denied a refund or exclusion from income for an award that qualifies for the Wrongful Incarceration Exclusion may apply for a refund.

Q11:    For the year an award for wrongful incarceration is received, what is an award recipient required to report on a federal income tax return (Form 1040), or submit to the IRS, to claim the Wrongful Incarceration Exclusion?

A11:    There are no reporting requirements for receipt of an award qualifying for the Wrongful Incarceration Exclusion. This means for the year an award for wrongful incarceration is received, an award recipient is not required to report receipt of the award on his or her federal income tax return (Form 1040), or submit documentation to the IRS, to claim the Wrongful Incarceration Exclusion. 

Q12:    What records will the IRS require a wrongfully incarcerated individual to retain in order to substantiate that the award he or she received qualifies for the Wrongful Incarceration Exclusion?

A12:    To substantiate the Wrongful Incarceration Exclusion, the individual must retain documents establishing that the award was made on account of wrongful incarceration.  Generally, these documents must be retained for three years from the date the return is filed.  Examples of such documentation include copies of federal or state court orders awarding the compensation, signed settlement agreements accepting the amount of the award, and letters by governmental agencies or private payment sources that may have accompanied the payment of the award that include an explanation of the reason for the payment. 

Q13:    May an individual who was wrongfully incarcerated but released before trial and not convicted of any crime exclude an award from income under the Wrongful Incarceration Exclusion?

A13:    No.  However, section 104(a)(2) excludes from gross income damages received on account of personal physical injuries or physical sickness.  Individuals who received a damage award generally may exclude an award from income to the extent the award was received on account of a personal physical injury or physical sickness.  See IRS Publication 4345, Settlements — Taxability, for more information.  

Q14:    May a spouse, child, parent, or other individual exclude from gross income an award he or she receives for derivative claims such as loss of consortium or loss of companionship of the wrongfully incarcerated individual under the Wrongful Incarceration Exclusion?

A14:    No.  The Wrongful Incarceration Exclusion does not apply to damage awards an individual receives for derivative claims such as loss of consortium or loss of companionship of the wrongfully incarcerated individual.

Q15:    Are payments received in settlement of an action for wrongful incarceration considered “civil damages” under section 139F(a)?

A15:    Yes.  Payments received in settlement of an action for wrongful incarceration are considered “civil damages” under section 139F(a).

Q16:    Will the IRS pay interest on amounts refunded under the Wrongful Incarceration Exclusion?

A16:    Yes.  The IRS will pay interest, as provided by statute, on amounts refunded under the Wrongful Incarceration Exclusion.

Q17:    If, before enactment of the Wrongful Incarceration Exclusion, a wrongfully incarcerated individual excluded an award from income, and the IRS subsequently required the taxpayer to include the award in income and pay penalties and interest for underpaying tax, may the individual apply for a refund of tax paid on the award and a refund of the penalties and interest paid?

A17:    Yes.  A wrongfully incarcerated individual who, for a tax year before enactment of the Wrongful Incarceration Exclusion, was required by the IRS to include the award in income and pay penalties and interest for underpaying tax may apply for a refund of tax paid on the award. See FAQs 5-9.  Once the amended return is filed and the IRS approves the refund of the overpayment of tax, then the IRS will automatically refund any penalties and interest previously paid.

Q18:    May the estate of a wrongfully incarcerated individual exclude from income a posthumous award (including a posthumous restitution payment) it receives in the current tax year or a prior tax year that meets the requirements of the Wrongful Incarceration Exclusion?

A18:    Yes.  The estate of a wrongfully incarcerated individual may exclude from the estate’s income a posthumous award (including a posthumous restitution payment) it receives in the current tax year or a prior tax year that meets the requirements of the Wrongful Incarceration Exclusion.  The estate is not required to file a federal income tax return (Form 1041), or submit documentation to the IRS, for the year in which the award is received in order to claim the Wrongful Incarceration Exclusion.  However, the estate must possess and retain documents to substantiate that the award qualifies for the Wrongful Incarceration Exclusion.  See FAQ 12.

Q19:    Who may apply for a refund if a wrongfully incarcerated individual, now-deceased, included in income in a year ending before his or her death an award meeting the requirements of the Wrongful Incarceration Exclusion?

A19:    The surviving spouse of the deceased individual may apply for the refund if the decedent included the award in income and reported the award on a joint income tax return with that spouse.  Alternatively, a duly appointed fiduciary of the deceased individual’s estate, such as an executor or administrator, may apply for the refund.  If there is no surviving spouse or duly appointed fiduciary, a beneficiary who succeeds to the decedent’s interest under state law may apply for the refund.  The person applying for the refund must file an amended federal income tax return on the decedent’s behalf (Form 1040X) for that prior tax year, accompanied by Form 1310, Statement of Person Claiming Refund Due a Deceased Taxpayer.  See Publication 559, Survivors, Executors, and Administrators, for more information.  See also FAQs 5-9 for a discussion of the requirements for filing a refund claim.

Q20:    Who may apply for a refund if the estate of a deceased wrongfully incarcerated individual included in the estate’s income an award that meets the requirements of the Wrongful Incarceration Exclusion?

A20:    A duly appointed fiduciary may apply for the refund.  To apply for the refund, the fiduciary must file an amended Form 1041, accompanied by a Form 1310.  See FAQs 5-9 for a discussion of the requirements for filing a refund claim.

 

Page Last Reviewed or Updated: 18-Aug-2016