The United States Tax Court in an opinionissued under IRC Section 7463(b) – which provides that the decision is not reviewable by any other court and should not be cited as authority – determined that since the participant was unable to engage in “substantial gainful activity” during the year in which the normally taxable distribution occurred, she was not liable for the early distribution penalty. This was despite the participant’s unsuccessful effort to return to work.
Mary Coleman-Stephens was an employee of the US Postal Service until she fell ill in February 1997. This led to hospitalization for depression in May of that year, which Coleman-Stephens was not released from until July.
Following her release, Coleman-Stephens began seeing a clinical psychologist in September 1997. After meeting with her, the psychologist recommended that Coleman-Stephens return to work on a full-time basis, but in a position with little or no supervisory responsibilities.
Then in May 1998, Coleman-Stephens was awarded Workers’ Compensation for her occupational disease claim for depression suffered as a result of her February 1997 incident. Subsequently, she was given a limited duty position with the Postal Service. Coleman-Stephens, unable to continue her employment, eventually ceased her employment.
At some point Coleman-Stephens received a loan from the Federal Employees’ Thrift Savings Plan (TSP), that was neither repaid nor reamortorized by the required deadline. TSP then determined that Coleman-Stephens had a taxable distribution from the plan due to the failure to repay the loan. In her tax return for that year, Coleman-Stephens reported the distribution from the TSP, but did not report any additional early withdraw penalty.
Noticing an alleged oversight on Coleman-Stephens behalf, the Internal Revenue Service (IRS) filed suit. In the suit, the IRS contended that Coleman-Stephens’ condition was not a disability on the grounds that she was not “so impaired by depression” that she was “unable to engage in substantial gainful activity” and that it was not “indefinite.”
Tax Court Determination
Under normal circumstances, a distribution from a qualified retirement plan that is considered early is subject to a 10% early withdraw penalty under IRC Section 72(t). However, exceptions do apply, and in this case, the court determined the participant met the necessary criteria in IRC Section 72(m)(7). That section defines disabled as “unable to engage in any substantial gainful activity by reason of any medically determinable physical or mental impairment which can be expected to result in death or to be of long-continued and indefinite duration.”
Thus, even though employed in some capacity, the worker still met the criteria of disability due to the inability to be employed in a type of activity in which the individual customarily engaged prior to the arising of the disability.
The case is Mary Coleman-Stephens v. Commissioner of Internal RevenueNumber 14797-02S.