So Damages for Emotional Distress are taxable: Damages or settlement payments (other than punitive damages) to compensate persons for a physical injury or sickness are excludable from income under IRC Sec. 104(a)(2). Ok that’s Great. But the taxpayer in this case reached a settlement with her former employer after suffering “emotional distress” due to alleged harassment, disability discrimination, and intentional infliction of emotional distress including an instance where a coworker threw a binder at her. The Tax Court found that the emotional distress payment was taxable because there was no evidence of physical injury or suffering other than from emotional distress, and under the settlement agreement damages were not awarded on account of physical injury or physical sickness. Julie McGowen , TC Memo 2011-186 (Tax Ct.).