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Tax Court: Payments for Egg Donations are Taxable Compensation.

(Parker Tax Publishing February 1, 2015)

Despite the pain and suffering incurred during the procedures, the amounts a taxpayer received from donating her eggs was taxable compensation for services, not excludable damages under Code Sec. 104. Perez v. Comm'r, 144 T.C. No. 4 (2015).

Background

In 2009, Nicole Perez entered into two contracts with Donor Source International, LLC, an egg-donation agency in California that matches egg donors with women and couples struggling to conceive on their own. Perez received payments in exchange for undergoing several painful operations and procedures to donate her eggs to infertile couples. Under the contracts, the payments Perez received were designated compensation for pain and suffering.

Pursuant to her arrangement with Donor Source, Perez took birth control pills to sync her menstrual cycle with that of the intended mother and underwent a series of intrusive physical examinations. She frequently had to undergo invasive internal ultrasound examinations, have blood drawn by syringe, and self-administer hormonal and other intramuscular injections using large needles. The shots caused Perez to experience physical pain deep within her muscles and also extreme abdominal bloating. After the eggs were harvested, Perez suffered from mood swings, headaches, nausea, and fatigue.

Perez underwent this process twice during 2009 and Donor Source sent her a Form 1099 for $20,000 based on the payments she received in connection with the two egg extractions. After consulting other egg donors online, Perez concluded that the money was not taxable because it compensated her only for pain and suffering; therefore, she left it off her tax return. The IRS disagreed and sent her a notice of deficiency.

Analysis

The Tax Court was asked to address whether a taxpayer who suffers physical pain or injury while performing a contract for personal services may exclude the amounts paid under that contract as "damages received on account of personal physical injuries or physical sickness" under Code Sec. 104(a)(2) even though the taxpayer knew that such injury or sickness might occur and consented to it in advance.

Perez argued that the payments were in exchange for the pain, suffering, and physical injuries she endured as part of the egg-retrieval process, while the IRS argued Perez was simply compensated for services rendered. Both parties agreed that the payments Perez received were not for the sale of her eggs.

Reg. Sec. 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 payments) on account of personal physical injuries or physical sickness (Reg. Sec. 1.104-1(c)(1)).

The court first assessed the nature of Perez's compensation, concluding Perez was compensated for a service, rather than for the eggs themselves. The court distinguished Green v. Comm'r, 74 T.C. 1229 (1980) (holding taxpayer compensated for blood plasma was engaged in the sale of tangible personal property rather than performance of services) and U.S. v. Garber, 607 F.2d 92 (5th Cir. 1979) (suggesting taxpayer compensated for blood plasma might be engaged in sale of property because compensation was directly related to concentration of antibodies produced), the only two cases the court found that were comparable to Perez's situation.

The court reasoned that unlike the taxpayers in Green and Garber, who were paid by the quantity and the quality of plasma produced, Perez's compensation didn't depended on the quantity or quality of the eggs retrieved, but solely on how far into the egg-retrieval process she went. Accordingly, the court concluded Perez was not being compensated for her eggs, but was being paid in a service capacity to undergo the painful procedures associated with the egg harvesting process.

The court then turned to the question of whether the payments could be considered damages excludible from income under Code Sec. 104. The court rejected Perez's assertion that the court should interpret "damages" in Code Sec. 104(a)(2) broadly to mean compensation in money received for a loss, regardless of any legal suit or action. The court noted that traditionally awards or settlement proceeds from personal injuries have been excluded from income as a "tort or tort-type right" under regulations, but later amendments to the regulations removed the "tort and tort-type right" requirement and broadened the definition to include administrative and statutory remedies (Reg. Sec. 1.104-1(c)(1)).

The court concluded, however, that even under the more expansive definition, Code Sec. 104 still did not apply to Perez, as the regulation addresses situations where a taxpayer settles a claim for physical injuries or physical sickness before, or at least in lieu of, seeing litigation through to its conclusion. The court reasoned that since Perez voluntarily signed a contract to be paid to endure the painful procedures, her actions were similar to an advance waiver of possible future damages for personal injuries and were therefore distinguishable from the case law she cited and consequently the amounts she received must be included as taxable income.

Lastly, the court noted that ruling in Perez's favor would open the door for individuals who endure physical injuries as a result of their profession, such as professional athletes and laborers, to claim a portion of their salaries allocable to pain and suffering from injuries sustained in the course of their employment. The court found that prospect untenable, noting that individuals who take on those risks of pain and suffering do so voluntarily before they begin their work and therefore payment in such cases is properly taxable compensation and not excludable damages.

For a discussion of damages received on account of physical injuries or sickness, see Parker Tax ¶ 75,910. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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