August 5, 2021 1:57 am

Garnished Retirement Benefits Still Taxable

A state correctional officer won a $500,000 award for back pay from a discrimination lawsuit.  This consisted of $144,304 for compensatory damages, $355,696 for back pay, and $31,864 for interest; he was also reinstated to his position. After issuing him a check for back pay and interest, the state determined that it should have withheld taxes from the back pay and began to garnish his pay to cover the debt. When he retired, the state continued to withhold money from his pension. He didn’t include the amount withheld from his pension (and reported on Forms 1099-R) in income, arguing that only his net pension—the amount he actually received—was taxable.

The Tax Court rejected this argument (Kissell, Tax Court bench decision, 6/10/21). A taxpayer must include payments in income if they are actually or constructively received. In this case, he constructively received the payments because he derived an economic benefit from them; they went toward satisfying his debt to the state. The fact that the transfer (garnishment) was involuntary has no impact on the tax results.

Tax Glossary

Amount recognized

The amount of gain reportable and subject to tax. On certain tax-free exchanges of property, gain is not recognized in the year it is realized.

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