T.C. Summary Opinion 2015-72

UNITED STATES TAX COURT

DALE MARTIN SANA, Petitioner v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 29246-13S. Filed December 2, 2015.

Dale Martin Sana, pro se.

Robert M. Romashko, for respondent.

SUMMARY OPINION

GUY, Special Trial Judge: This case was heard pursuant to the provisions

of section 7463 of the Internal Revenue Code in effect when the petition was

filed. Pursuant to section 7463(b), the decision to be entered is not reviewable by 1

Unless otherwise indicated, section references are to the Internal Revenue 1

(continued...)
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any other court, and this opinion shall not be treated as precedent for any other

case.

Respondent determined a deficiency of $3,585 in petitioner’s Federal

income tax for 2011. Petitioner filed a timely petition for redetermination with the

Court pursuant to section 6213(a). At the time the petition was filed, petitioner

resided in Illinois.

The sole issue for decision is whether petitioner may exclude from gross

income $13,505 of retirement pay that he received from the Defense Finance and

Accounting Service (DFAS) in 2011. To the extent not discussed herein, other

issues are computational and flow from our decision in this case.

Background

Some of the facts have been stipulated and are so found. The stipulation of

facts and the accompanying exhibits are incorporated herein by this reference.

I. Petitioner’s Military Service and Disability Retirement

Petitioner attended Lewis University where he received a bachelor’s degree

in aviation maintenance and management in 1985. In the fall of 1985 petitioner

(...continued) 1

Code, as amended and in effect for 2011, and Rule references are to the Tax Court

Rules of Practice and Procedure. Monetary amounts are rounded to the nearest

dollar.
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enlisted in the U.S. Navy, and he was commissioned as an officer in March 1986. 

After receiving primary flight training in Corpus Christi, Texas, he was transferred

to Pensacola, Florida, for helicopter flight training.

In June 1987 petitioner suffered a serious injury to his left knee in a

waterskiing accident. Over the years that followed he had numerous surgeries to

repair damaged bone, nerves, and ligaments and received extensive physical

therapy and rehabilitation treatment.

Effective June 15, 1991, the Navy discharged petitioner from active duty,

placed him on its temporary disability retirement list, and assigned him a 40%

disability rating. Petitioner worked as a construction laborer while he was on the

Navy’s temporary disability retirement list.

In February 1993 the Navy’s Physical Examination Board determined that

petitioner’s disabling condition made him unfit for further duty, that he was 30%

disabled, and that he would be permanently retired in accordance with the

provisions of 10 U.S.C. sec. 1210 (2012). Thereafter, petitioner received monthly

retirement pay equal to his base pay multiplied by his disability rating of 30%. 

See id. sec. 1401.

Petitioner testified that he continued to have knee pain after retiring from

the Navy and that he eventually elected to have knee replacement surgery in 2009. 
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Petitioner acknowledged at trial that he has never submitted to a medical

examination at a Department of Veterans Affairs (VA) facility nor received a

disability rating from the VA. The record does not include any medical records or

other documents related to the knee replacement surgery that petitioner referred to

or his physical condition in 2011.

II. Tax Reporting

DFAS reported on Form 1099-R, Distributions From Pensions, Annuities,

Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., that petitioner

received taxable retirement pay of $13,505 in 2011. Petitioner timely filed a

Federal income tax return for 2011. Although he reported that he received wages

of $88,095 from Grubb & Ellis Management Services in 2011, he did not include

his military retirement pay as an item of gross income.2

III. The Parties’ Positions

Respondent issued to petitioner a notice of deficiency for 2011 determining

that his military retirement pay must be included as an item of gross income. 

Respondent asserts that petitioner’s military retirement pay is not excludable from

The record reflects that petitioner’s filing status for the year in issue was 2

married filing separate.
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gross income under section 104(a)(4) because he failed to show the amount, if any,

that he would be entitled to receive as disability compensation from the VA.

Petitioner filed a petition for redetermination with the Court asserting that

his military retirement pay is excludable from gross income under section

104(a)(4) because he is certain that his knee injury would entitle him to an award

of VA disability benefits within the meaning of section 104(b). He further asserts

that excluding his retirement pay from gross income is consistent with instructions

contained in Internal Revenue Service (IRS) Publication 525, Taxable and

Nontaxable Income.

Discussion

The Commissioner’s determinations in a notice of deficiency are generally 

presumed correct, and the taxpayer normally bears the burden of proving those

determinations are erroneous. Rule 142(a)(1); Welch v. Helvering, 290 U.S. 111,

115 (1933). Petitioner does not contend that the burden of proof should be shifted

to respondent under section 7491(a), and there is no support in the record for

doing so. It follows that petitioner bears the burden of proof in this case. 3

It is worth noting that petitioner does not dispute that he received 3

retirement pay of $13,505 from DFAS.
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Section 61(a) provides that gross income means “all income from whatever

source derived”. Pensions and retirement allowances constitute gross income

unless excluded by law. Sec. 61(a)(11); sec. 1.61-11(a), Income Tax Regs. 

Military retirement pay is pension income within the meaning of section 61(a)(11). 

Wheeler v. Commissioner, 127 T.C. 200, 205 n.11 (2006), aff’d, 521 F.3d 1289

(10th Cir. 2008).

It is well established that statutory exclusions from income are narrowly

construed. Commissioner v. Schleier, 515 U.S. 323, 328 (1995). Taxpayers

seeking an exclusion from income must demonstrate that they are eligible for the

exclusion and “bring themselves within the clear scope of the exclusion.” Dobra

v. Commissioner, 111 T.C. 339, 349 n.16 (1998).

I. Limited Exclusion of Military Retirement Pay From Gross Income

Section 104(a)(4) provides the general rule that amounts received as a

pension, annuity, or similar allowance for personal injuries or sickness resulting

from active service in the armed forces of any country are not included in gross

income. Section 104(b)(1) and (2)(D), however, limits the exclusion prescribed

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in subsection (a)(4), as relevant here, to an individual who “on application therefor 

Although there is no dispute that petitioner injured his knee in a 4

waterskiing accident, respondent does not assert that petitioner’s injury did not

result from “active service in the armed forces”.
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* * * would be entitled to receive disability compensation from the Veterans’

Administration.” Section 104(b)(4) further provides that if an individual is 5

described in subsection (b)(2), the amount excludable from gross income under

subsection (a)(4) for any period “shall not be less than the maximum amount

which such individual, on application therefor, would be entitled to receive as

disability compensation from the Veterans’ Administration.”6

The restrictions imposed in section 104(b) are better understood in the light

of the legislative history underlying the Tax Reform Act of 1976, Pub. L. No. 94-

455, sec. 505(b), 90 Stat. at 1567. At that time Congress recognized that the

With limited exceptions, benefits administered by the VA have long been 5

exempt from taxation. See 38 U.S.C. sec. 3101(a) (1958) (the predecessor to 38

U.S.C. sec. 5301(a)(1) (2012)); Wallace v. Commissioner, 128 T.C. 132, 141 n.5

(2007).

In Reimels v. Commissioner, 123 T.C. 245, 257 (2004), aff’d, 436 F.3d 344

6

(2d Cir. 2006), we stated in relevant part:

[A]lthough section 104(b)(4) is not a model of clarity, its legislative

history suggests that it was intended to apply with respect to retired

military personnel who do not receive the Veterans’ Administration

benefits to which they are otherwise entitled. In certain circumstances, section 104(b)(4) provides such persons with a tax benefit at

least as great as the tax exemption that would have been available for

the forgone Veterans’ Administration benefits.
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exclusion from gross income prescribed in section 104(a)(4) invited taxpayer

abuse, which it described in relevant part as follows:

Criticism of the exclusion of armed forces disability pensions

from income focuses on a number of cases involving the disability

retirement of military personnel. In many cases, armed forces

personnel have been classified as disabled for military service shortly

before they would have become eligible for retirement principally to

obtain the benefits of the special tax exclusion on the disability

portion of their retirement pay. In most of these cases the individuals,

having retired from the military, earn income from other employment

while receiving tax-free ‘disability’ payments from the military. The

committee questions the equity of allowing retired military personnel

to exclude the payments which they receive as tax-exempt disability

income when they are able to earn substantial amounts of income

from civilian work, despite disabilities such as high blood pressure,

arthritis, etc.

* * * * * * *

The committee amendment eliminates the exclusion of

disability payments from income for those covered under section

104(a)(4), that is, members of the armed forces of any country,

NOAA, the Public Health Service and the Foreign Service. This

change applies only prospectively to persons who join these

government services after September 24, 1975. Specific exceptions

continue the exclusion in certain cases for future disability payments

for injuries and sickness resulting from active service in the armed

forces of the United States.

At all times, Veterans’ Administration disability payments will

continue to be excluded from gross income. In addition, even if a

future serviceman who retires does not receive his disability benefits

from the Veterans’ Administration, he will still be allowed to exclude

from his gross income an amount equal to the benefits he could

receive from the Veterans’ Administration. Otherwise, future
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members of the armed forces will be allowed to exclude military

disability retirement payments from their gross income only if the

payments are directly related to “combat injuries.” * * *

S. Rept. No. 94-938, at 138-139 (1976), 1976-3 C.B. (Vol. 3) 49, 176-177; see

Kiourtsis v. Commissioner, T.C. Memo. 1996-534. 

II. Disability Ratings for Members of the Armed Forces

A. Statutory Provisions--Title 10

At all times relevant to this case, 10 U.S.C. ch. 61 established the standards

and processes by which the Armed Forces (including the Navy) determine

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whether a service member may be retired or separated from service because of a

medical disability. A service member with a disability who otherwise would be

entitled to retire permanently under the provisions of 10 U.S.C. sec. 1201 (2012),

but whose disability is not determined to be permanent and stable, is eligible to be

placed in temporary disability retirement status. See id. sec. 1202. A service

member in temporary disability retirement status must submit to periodic physical

examinations, and a determination whether a particular disability is permanent and

stable must be made within five years. See id. sec. 1210(a) and (b). 

The U.S. Navy is a military service and a branch of the Armed Forces of 7

the United States. See 10 U.S.C. sec. 101(a)(4) (2012).
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A service member with a permanent and stable physical disability who is

found to be unfit for further duty is eligible to receive retirement pay if the

member has at least 20 years of service or his disability is rated at least 30% under

the VA standard schedule of rating disabilities (VASRD). See id. sec. 1201.8

Disability retirement pay is computed as the higher of (1) the service member’s

base pay multiplied by 2.5% for each year of military service or (2) the service

member’s base pay multiplied by his disability rating (in this case 30%). See id.

sec. 1401.

B. Statutory Provisions--Title 38

The United States will compensate a veteran of the armed forces for a

disability resulting from personal injury suffered or disease contracted in the line

of duty and in active service if the veteran was discharged or released under

conditions other than dishonorable and if the disability is not the result of the

veteran’s own willful misconduct or abuse of alcohol or drugs. See 38 U.S.C.

secs. 1110, 1131 (2012). In this regard the VA is authorized to adopt a schedule

of ratings of reductions in earning capacity from specific injuries based, as far as

practicable, upon the average impairments of earning capacity resulting from such

injuries in civil occupations. See id. sec. 1155 (providing in pertinent part that the

The VASRD is set forth at 38 C.F.R. pt. 4 (2012).

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VASRD shall be constructed so as to provide only 10 grades of disability, e.g.,

10%, 20%, and so on, upon which payments of compensation shall be based).

By way of example, the VARSD provides the following disability ratings in

respect of an individual who has had knee replacement surgery:

5055 Knee replacement (prosthesis).

Prosthetic replacement of knee joint:

For 1 year following implantation of prosthesis . . . . . . . . 100

With chronic residuals consisting of severe painful

motion or weakness in the affected extremity . . . . . . . . . . 60

With intermediate degrees of residual weakness,

pain or limitation of motion rate by analogy to

diagnostic codes 5256, 5261, or 5262. Minimum rating . . 30

See 38 C.F.R. sec. 4.71a (2012).

Monthly compensation amounts for each of the VA’s 10 grades of disability

are fixed by statute. See 38 U.S.C. secs. 1114, 1134 (2012). Compensation

amounts increase if the disabled service member has a spouse and/or dependents. 

See Dept. of Veterans Affairs, Veterans Benefits Administration, Compensation

Rate Table (Dec. 1, 2009), http://www.benefits.va.gov/compensation/resources_

comp0109.asp.
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III. Whether Petitioner Is Entitled to VA Disability Benefits

When the Navy determined that petitioner was permanently disabled and

unfit for further duty, he did not have the 20 years of service needed to qualify for

a disability retirement. The Navy concluded, however, that he was entitled to a

disability retirement (and the payments that go with that status) because his

VASRD disability rating equaled 30%. See 10 U.S.C. sec. 1201.

As discussed above, section 104(b)(2) limits the exclusion from gross

income for disability payments to individuals who, upon application, would be

entitled to receive disability compensation from the VA. Section 104(b)(4)

provides that the amount excluded under subsection (a)(4) will not be less than the

maximum amount which the individual would be entitled to receive as disability

compensation from the VA. The instructions in IRS Publication 525 that

petitioner cited in his petition merely track the statute.

Although the Navy and the VA apply the same rating standards--the

VASRD-- the Navy and the VA approach the question of disability ratings from

different perspectives. Whereas the Navy focuses on whether a service member is

able to perform his or her miliary duties at a given time, the VA rates disabilities

by weighing the impact of an injury or illness on a veteran’s earning capacity in a

civil occupation over his or her lifetime. Stine v. United States, 92 Fed. Cl. 776,
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795 (2010) (“[A] rating disparity between the two systems is not unusual because

of the differing standards that must be applied.”), aff’d, 417 F. App’x 979 (Fed.

Cir. 2011); see Lockwood v. United States, 90 Fed. Cl. 210, 219 (2008) (“Both the

Department of Veterans Affairs and the military service branches rely on the * * *

(VASRD), however, they do so in different ways.”); see also Cleary v.

Commissioner, 60 T.C. 133, 140 n.10 (1973) (‘“[T]he basis for * * * [VA] action

is different from the basis upon which a retiring board determines whether or not

an officer is entitled to retirement for physical disability[.]”’ (quoting Furlong v.

United States, 153 Ct. Cl. 557, 565 (1961))).

As the example from the VASRD above shows, an individual who has

undergone knee replacement surgery would be subject to a disability rating

ranging from a high of 100% in the year following the surgery to a rating as low as

30% depending on his recovery and symptoms. Notably, petitioner’s monthly

retirement benefit of approximately $1,125 in 2011 was considerably more than

the monthly VA benefit for a veteran with a 30% disability prescribed in 38 U.S.C.

secs. 1114 and 1134.

Although we appreciate the seriousness of petitioner’s injury, we lack any

objective evidence to determine whether the VA would have awarded him

disability compensation in 2011. Petitioner acknowledged at trial that he has
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never submitted to a physical examination at a VA facility nor been awarded a

disability rating by the VA. Aside from his own testimony that he is certain that

he is entitled to VA disability benefits, petitioner did not offer any objective

evidence showing that he had knee replacement surgery in 2009 or his physical

condition in 2011 that would permit the Court to conclude that he would be

entitled to receive disability compensation from the VA, and, if so, the amount of

that compensation. Consequently, we are unable to conclude that any amount of

his disability retirement pay is excludable from gross income under section

104(a)(4).

To reflect the foregoing,

Decision will be entered

for respondent.