                  T.C. Summary Opinion 2005-182



                     UNITED STATES TAX COURT



                VERNADEAN A. PATES, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 5802-04S.            Filed December 8, 2005.



     Vernadean A. Pates, pro se.

     John F. Driscoll, for respondent.




     COUVILLION, Special Trial Judge:    This case was heard

pursuant to section 7463 in effect when the petition was filed.1

The decision to be entered is not reviewable by any other court,

and this opinion should not be cited as authority.




     1
      Unless otherwise indicated, subsequent section references
are to the Internal Revenue Code in effect for the year at issue.
                                - 2 -

     Respondent determined a deficiency of $12,575 in

petitioner’s Federal income tax for 2001.     The sole issue for

decision is whether $54,000 of a $90,000 payment received by

petitioner from her former employer during 2001 is excludable

from gross income under section 104(a)(2).2

     Some of the facts were stipulated.    Those facts, with the

annexed exhibits, are so found and are incorporated herein by

reference.    At the time the petition was filed, petitioner was a

legal resident of Birmingham, Alabama.

     Petitioner became an employee of Regions Bank (Regions) in

1996.    Her employment with Regions was mutually terminated in

November 2001 pursuant to a Settlement Agreement and Release

(Agreement) in which she received the monetary settlement that is

the subject of this litigation.

     Petitioner was hired as a money transfer clerk, level II, by

Regions in July 1996 earning $8.75 per hour.     Petitioner had

previously worked for several banks in the area, and, when she

left one bank to join Regions, the previous employer listed her


     2
      Petitioner accepted a $90,000 settlement, and $36,000 of
that amount was paid directly to her attorney for attorney’s
fees. In the notice of deficiency, respondent did not determine
that the $36,000 constituted gross income. In Commissioner v.
Banks, 543 U.S. 426 (2005), the Supreme Court held that
attorney’s fees in a settlement recovery that is excludable from
income under sec. 104 constitute gross income. The attorney’s
fees are deductible as an itemized deduction. Respondent did not
move to increase the income determination to reflect the recent
decision; therefore, the only issue is whether the $54,000 paid
directly to petitioner is taxable.
                                 - 3 -

as ineligible for rehire because she “would not follow

instructions and caused many disruptions in the work area”.     As a

money transfer clerk at Regions, petitioner was reviewed

frequently.   In her first review, the supervisors listed

petitioner’s work as unsatisfactory, noting that she often

“bickered” with her coworkers, was not always dependable, and did

not seem to grasp the job.   It was particularly noted that

petitioner made multiple wire transfer errors that, had they not

been detected by a supervisor, would have caused Regions to lose

several million dollars.   A subsequent review, in January 1997,

showed petitioner dealt well with customers but further stated

she still needed to improve.   The review also noted that

petitioner made many errors that caused extra work for other

employees.

     Sometime in early 1997, petitioner was transferred to

another department as a utility clerk.   Petitioner considered

this a demotion even though she received a slight pay increase.3

Petitioner received one negative review shortly after that

transfer, which noted she was still unreliable.   After that,

however, petitioner received satisfactory reviews and continued

to get periodic pay increases.




     3
      Petitioner testified at trial that she never received pay
raises from Regions; however, she admitted during a deposition in
the title VII lawsuit that she had received numerous pay raises.
                                - 4 -

     In 1998, petitioner filed a race discrimination action

against Regions with the U.S. District Court for the Northern

District of Alabama, pursuant to title VII of the Civil Rights

Act of 1964, as amended.    Petitioner alleged that co-workers whom

she felt were less qualified were receiving jobs and promotions

that she had applied for.    Petitioner asserted this was due

solely to her race, African-American.

     Petitioner continued working for Regions while her suit was

pending.   In November 2001, petitioner and Regions agreed to

mediation, which resulted in a settlement wherein Regions agreed

to pay petitioner $90,000 in return for the dismissal of the

title VII action and her resignation from Regions.    Petitioner

received $54,000, and her attorney received $36,000 in fees.

Both parties agreed to keep the terms of the settlement

confidential.   Petitioner resigned her employment, and the action

was dismissed by joint stipulation on December 4, 2001.

     Petitioner filed her 2001 Federal income tax return timely

but did not include the $54,000 as income on her return.    The

sole issue before the Court is whether petitioner must include,

as gross income, the $54,000 settlement she received from

Regions. See supra note 2.

     Section 104(a)(2) excludes from gross income “the amount of

any damages (other than punitive damages) received (whether by

suit or agreement and whether as lump sums or as periodic
                                 - 5 -

payments) on account of personal physical injuries or physical

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.”    Amounts are

excludable from gross income only when (1) the underlying cause

of action giving rise to the recovery is based on tort or tort

type rights, and (2) the damages are received on account of

personal injuries or sickness.     Commissioner v. Schleier, 515

U.S. 323, 337 (1995).   The flush language in section 104(a)

further provides that “emotional distress shall not be treated as

a physical injury or physical sickness.”    Sec. 104.

     Where amounts are received pursuant to a settlement

agreement, the nature of the claim that was the actual basis for

settlement controls whether such amounts are excludable from

income under section 104(a)(2).     United States v. Burke, 504 U.S.

229, 237 (1992).   Determination of the nature of the claim is a

factual inquiry and is generally made by reference to the

settlement agreement.   Robinson v. Commissioner, 102 T.C. 116,

126 (1994), affd. in part and revd. in part 70 F.3d 34 (5th Cir.

1995).   “[W]here an amount is paid in settlement of a case, the

critical question is, in lieu of what was the settlement amount

paid.”   Bagley v. Commissioner, 105 T.C. 396, 406 (1995), affd.
                                - 6 -

121 F.3d 393 (8th Cir. 1997).    An important factor in determining

the purpose of the payment is the “intent of the payor”.

Knuckles v. Commissioner, 349 F.2d 610, 613 (10th Cir. 1965),

affg. T.C. Memo. 1964-33.    If the payor’s intent cannot be

clearly discerned from the settlement agreement, the intent of

the payor must be determined from all the facts and circumstances

of the case, including the complaint filed and details

surrounding the litigation.     Robinson v. Commissioner, supra at

127.

       The agreement that petitioner and Regions entered into

states:    “In consideration of the promises made herein by Pates,

Employer agrees that it will pay to Pates and her attorney * * *

($90,000) for attorney’s fees and compensatory damages for

emotional distress under Title VII of the Civil Rights Act of

1964, as amended”.    The Agreement is dated November 27, 2001, and

was signed by all parties.

       Under section 104(a)(2), as amended and in effect for 2001,

the mediation agreement pursuant to which the $54,000 (excluding

attorney’s fees) was paid to petitioner clearly was not a

settlement for personal physical injuries or physical sickness

but was specifically for emotional stress she sustained due to

racial discrimination.    Additionally, no portion of the

settlement included payment for any medical expenses petitioner
                              - 7 -

sustained or might sustain for her emotional stress.4

Accordingly, the Court holds that no portion of the $54,000

settlement is excludable from gross income.    Respondent,

therefore, is sustained.

     Reviewed and adopted as the report of the Small Tax Case

Division.



                                           Decision will be entered

                                      for respondent.




     4
      Petitioner testified at trial that she developed narcolepsy
and extreme fatigue while working at Regions due to the stress of
her mistreatment. Petitioner, however, did not claim physical
sickness either in the language of her suit against Regions or in
her deposition with Regions’ counsel. The only physical ailments
petitioner claimed during her deposition were unrelated “female
problems”. Furthermore, petitioner stated in her deposition that
she was suing Regions solely for racial discrimination.
