The IRS’s General Welfare Exclusion

The IRS’s General Welfare Exclusion

February 9, 2023
The IRS’s General Welfare Exclusion
The Internal Revenue Service (IRS) has concluded that
Office Decision 3229 that lump-sum payments to a
certain payments under legislatively provided social benefit
deceased employee’s estate under Sections 203 and 204(b),
programs that promote the general welfare are excludable
Title II, of the Social Security Act also were not subject to
from a recipient’s gross income and thus are not subject to
income tax. Then, the IRS announced in Office Decision
tax. The general welfare exclusion is not based on any
3230, also without an explanation, that unemployment
specific statutory or regulatory authority. However, courts
compensation paid by a state agency from the Federal
and the IRS have long recognized this non-statutory
Unemployment Trust Fund established by Section 904,
exception to the general rule that all income is subject to tax
Title IX, of the Social Security Act was not subject to
unless specifically exempted by Congress. The general
income tax in the hands of the recipient. Beginning in 1984,
welfare exclusion provides the IRS with flexibility to
Congress partially eliminated the exclusion of Social
address unanticipated issues arising from legislatively
Security benefits from gross income under IRC Section 86.
provided social benefit program payments. This In Focus
Then, in 1986, Congress made unemployment
discusses the origins and rationale behind the IRS’s general
compensation includible in gross income under IRC Section
welfare exclusion; provides an overview of instances in
85.
which the general welfare exclusion has been applied; and
reviews examples of Congress’s intervention to partially
In 1975, the IRS issued General Counsel Memorandum
codify the general welfare doctrine or overturn a past IRS
36470, in which it took a hard look at its prior applications
exclusion.
of the general welfare exclusion. In its review, the IRS
explained that it believed it was “well within its authority”
Origins of the General Welfare Exclusion to apply the general welfare exclusion where Congress
Since the 1930s, the IRS has contended that the general
intended for a payment to be excluded, including where
welfare exclusion is an administrative exception to the
Congress did not explicitly state its intent in legislation. The
statutory definition of gross income. Internal Revenue Code
IRS also announced that it could exclude analogous state
(IRC) Section 61(a) defines gross income for federal
payments from federal gross income if the payments were
income tax purposes as “all income from whatever source
not in the nature of compensation.
derived” except as otherwise provided in IRC Subtitle A,
which contains the rules specific to federal income taxes.
Later, in an IRS Field Service Advisory dated March 24,
The Supreme Court has often stated that the broad
1998, the IRS clarified that its rationale for the general
phraseology in IRC Section 61, and its predecessors, is
welfare exclusion was that Congress intended for certain
evidence of Congress’s intent to use the full measure of its
federal payments to be exempt from gross income even
taxing power to reach undeniable accessions of wealth.
though Congress did not expressly exclude the payments in
Treasury Regulation Section 1.61-1(a) clarifies that gross
legislation or state that intent in legislative history. The IRS
income includes income realized in any form, such as
also acknowledged that the extension of the general welfare
money, property, or services. In 1995, the Supreme Court
doctrine to state payments that were analogous to federal
explained in Commissioner v. Schleier, 515 U.S. 323
payments was “initially problematic” because state
(1995), that the corollary to the sweeping scope of IRC
legislatures could not create federal income tax exclusions.
Section 61(a) is that exclusions from gross income are
Still, the IRS claimed the general welfare exclusion
narrowly construed.
“evolved” to exclude analogous state payments by
“administrative fiat.”
The IRS and commentators trace the origin of the general
welfare exclusion to a series of IRS office decisions issued
Application of the General Welfare
in 1938, following the 1935 passage of the Social Security
Exclusion
Act (P.L. 74-271). One of the act’s purposes was “to
Over the years, the IRS has excluded various payments
provide for the general welfare by establishing a system of
from gross income under the general welfare exclusion via
Federal old-age benefits, and by enabling the several States
administrative rulings, such as state payments to blind
to make more adequate provision for aged persons, blind
persons (Revenue Ruling 57-102, 1957-1 C.B. 26); job-
persons, dependent and [disabled] children, maternal and
training program payments to unemployed and
child welfare, public health, and the administration of their
underemployed individuals to enhance employability
unemployment compensation laws.” Without providing an
(Revenue Ruling 68-38, 1968-1 C.B. 446); state payments
explanation, the IRS announced in Office Decision 3194
to crime victims (Revenue Ruling 74-74, 1974-1 C.B. 18);
that lump-sum payments made under Section 204(a), Title
state payments to adoptive parents for support and
II, of the Social Security Act to aged individuals were “not
maintenance of their adoptive child (Revenue Ruling 74-
subject to income tax in the hand of the recipients.” Again,
153, 1974-1 C.B. 20); replacement housing payments
without providing an explanation, the IRS announced in
(Revenue Ruling 74-205, 1974-1 C.B. 21); payments to
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The IRS’s General Welfare Exclusion
workers who became unemployed mainly because of
In Revenue Ruling 2005-46, 2005-2 C.B. 120, the IRS
adverse impacts on their employers caused by increased
explained that payments to businesses generally do not
imports due to changes in trade policy (Revenue Ruling 76-
qualify for the general welfare exclusion because the
229, 1976-1 C.B. 19); disaster payments to meet necessary
payments are not based on individual or family need. Some
expenses or serious needs that included medical, dental,
commentators, meanwhile, point to an earlier ruling,
housing, personal property, transportation, and funeral
Revenue Ruling 77-77, 1977-1 C.B. 11, in which the IRS
expenses (Revenue Ruling 76-144, 1976-1 C.B. 17); and
concluded that Indian Business Grants paid to Indians and
state credits to offset the cost of winter energy consumption
Indian Tribes under Title IV of the Indian Financing Act of
(Revenue Ruling 78-170, 1978-1 C.B. 24).
1974 (P.L. 93-262) were excludible from gross income
under the general welfare doctrine. The grants paid through
In Revenue Ruling 2005-46, 2005-2 C.B. 120, the IRS
the Indian Business Development Program were to
clarified that, for a payment to qualify under the general
stimulate and increase entrepreneurship and employment by
welfare exclusion, the payment must (1) “be made from a
providing equity capital to establish and expand profit-
governmental fund”; (2) “be for the promotion of the
making Indian-owned economic enterprises on or near
general welfare (i.e., generally based on individual or
reservations. Commentators observed that these grants did
family need)”; and (3) not represent compensation for the
not appear to be awarded based on individual need and that
performance of services. Some commentators assert that the
individuals and tribes were eligible for the general welfare
IRS’s development of the general welfare doctrine has been
exclusion under the rule.
ad hoc, inconsistent, and unpredictable, most notably when
determining whether a payment is based on need.
In response to the uncertainty surrounding tribal general
welfare benefits, the Tribal General Welfare Exclusion Act
Over time, the IRS has ruled that the need criterion is met
of 2014 (P.L. 113-168) added Section 139E to the IRC,
not only when a payment determination is made based on a
which partially codifies the general welfare exclusion for
recipient’s financial situation but also when specific
certain tribal program benefits. An Indian general welfare
circumstances convey that a recipient has a situational need.
benefit includes any payment made or service provided to
For example, in Revenue Ruling 98-19, 1998-1 C.B. 840,
or on behalf of a member of an Indian tribe (or any spouse
the IRS ruled relocation payments to defray the expenses of
or dependent of such a member) under an Indian tribal
moving from a flood-damaged residence to another
program. The program must (1) be administered under
residence qualified for the general welfare exclusion. The
specified guidelines; (2) not discriminate in favor of
statute authorizing the payments, 42 U.S.C. § 5305, did not
members of the tribe’s governing body; and (3) provide
require the grantees of the payments to evaluate recipients’
benefits that are (a) available to any tribal member
financial need; rather, the recipient had “to be appropriate.”
(including spouses and dependents) who meets the
guidelines, (b) for the promotion of general welfare, (c) not
To provide recipients of disaster-related payments with
lavish or extravagant, and (d) not compensation for
certainty and clarity, in 2001, Congress partially codified
services. IRC Section 139E’s legislative history suggests
the general welfare exclusion for specific disaster-related
that Congress intended that “in no event will the IRS
payments. The Victims of Terrorism Tax Relief Act of
require an individualized determination of financial need
2001 (P.L. 107-134) added IRC Section 139, which
where a Tribal program meets all other requirements of new
provides that gross income includes no amount received by
section 139E.”
an individual as a “qualified disaster relief payment.” A
qualified disaster relief payment includes an amount paid to
Considerations for Congress
or for the benefit of an individual to pay or reimburse (1)
The partial codification of the general welfare exclusion has
reasonable and necessary personal, family, living, or funeral
provided certainty to some recipients of legislatively
expenses incurred because of a qualified disaster or (2)
provided social benefit programs that otherwise would have
reasonable and necessary expenses incurred for the repair or
been subject to the IRS’s administrative rule. These statutes
rehabilitation of a personal residence, and its contents, if the
do not supplant the IRS’s general welfare exclusion. The
need to repair, rehabilitate, or replace is attributable to a
IRS still must fill in gaps and determine when a
qualified disaster. IRC Section 139 does not restrict the
legislatively provided social benefit program payment is
source of the qualified disaster relief payments and does not
excludible from gross income absent explicit legislative
require the qualified disaster relief payments to be based on
instruction. While a few courts, such as the frequently cited
individual or family need. A qualified disaster relief
Tax Court decision in Bailey v. Commissioner, 88 T.C.
payment also includes an amount paid to or on behalf of an
1293 (1987), have acknowledged the general welfare
individual by a federal, state, or local government in
exclusion’s existence and reviewed its history, courts have
connection with a qualified disaster to promote the general
largely relied on IRS revenue rulings when determining
welfare. Qualified disaster relief payments do not include
whether a payment qualifies for the exclusion and generally
payments for expenses that are compensated for by
do not directly address the IRS’s interpretation of the
insurance. Qualified disasters include disasters resulting
general welfare doctrine and its validity. Some
from a terroristic or military action as defined in IRC
commentators contend that Congress should enact
Section 692(c)(2), federally declared disasters as defined in
legislation defining the general welfare exclusion to provide
IRC Section 165(i)(5)(A), and any event the Secretary of
greater certainty to recipients of legislatively provided
the Treasury determines to be of a catastrophic nature.
social benefit programs and limit the general welfare
exclusion to ensure an application that is more consistent.
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The IRS’s General Welfare Exclusion

IF12326
Milan N. Ball, Legislative Attorney

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