Righting the Wrongs – The Wrongful Incarceration Exclusion

Your Guide to State, Local, Federal, Estate + International Taxation

It’s difficult to imagine being convicted of a crime and wrongfully incarcerated. It’s even harder to imagine that when ultimately the truth sets you free the damages you receive are subject to tax. Congress too saw the irony in the fact that awards are often given to assist the wrongfully convicted and incarcerated persons establish their life again only to find out a portion of it would be lost to tax. In December of 2015 a new exclusion from income under section 139F was added to the Internal Revenue Code as part of the PATH Act.

To qualify for the wrongful incarceration exclusion an individual who was convicted of a covered offense and served all or part of a sentence of imprisonment relating to the covered offense must meet 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.
  2. The judgement 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.
  3. The judgement 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.

A covered offense is any criminal offense under federal or state law.

The wrongful incarceration exclusion applies to an award that a wrongfully incarcerated individual received in a prior, current or future tax year. An individual who received an award in a prior year and included it in income may file an amended return for the prior year and claim a refund. Generally, a refund claim must be filed within three years from the date the individual filed the return or two years from the date the individual paid the tax on the award. Congress suspended those deadlines for qualifying individuals if the refund claim is made by December 19, 2016.

An award received for wrongful incarceration that did not also result in a conviction of a crime is not eligible for the exclusion. The exclusion does not apply to damage awards received by spouses, children or parents of the wrongfully incarcerated individuals.

Thirty states in the nation have some type of statutory compensation for wrongful conviction and incarceration. Advancements in technology and DNA testing have resulted in the reversal of a number of earlier convictions. There are studies that estimate that the wrongful conviction rate in the United States is 5,000 to 10,000 of convictions per year. People’s lives are forever changed by wrongful incarceration. The exclusion cannot restore a person’s life to their pre-wrongful incarceration status but it does provide common sense tax treatment to the awards they receive.

By Cheryl Dickerson, CPA