MEMORANDUM FINDINGS OF FACT AND OPINION

MARVEL, JUDGE: Respondent determined deficiencies in petitioners' Federal income taxes for taxable years 1993 and 1994 of $ 120,226 and $ 39,914, respectively. The sole issue for decision ¹ is whether petitioners may exclude from gross income under section 104(a)(2)² three sets of payments received during the years at issue pursuant to a settlement agreement.

FINDINGS OF FACT

Some of the2000 Tax Ct. Memo LEXIS 404">*405 facts have been stipulated and are so found. The stipulation of facts is incorporated herein by this reference. Petitioners are married and resided in Brooklyn Park, Minnesota, at the time the petition was filed. References to petitioner are to Ronald N. Gross.

PETITIONER'S EMPLOYMENT AT OKABENA CO.

Petitioner is a certified public accountant. In October 1977, petitioner accepted a position as staff accountant at Okabena Co. (Okabena). In 1980, petitioner was promoted to vice president of administration, and in 1990, petitioner was promoted to executive vice president of administration. At no time during petitioner's employment did Okabena have more than 15 employees.

On April 6, 1993, a female employee at Okabena made a sexual harassment claim against petitioner to the president of Okabena, Bruce Lueck. That same day, Mr. Lueck informed petitioner of the allegations, and, upon advice of counsel, Okabena began an investigation. On April 7 and 8, 1993, Okabena's outside legal counsel interviewed each female employee of Okabena regarding these allegations. Petitioner was instructed not to discuss the investigation with anyone and to continue normal business operations. At the conclusion2000 Tax Ct. Memo LEXIS 404">*406 of its investigation, Okabena determined that sufficient evidence existed to conclude that petitioner had conducted himself improperly, that he no longer could manage the employees effectively, and that he was subject to termination.

On the morning of April 9, 1993, petitioner retained the legal services of James Roth to represent petitioner in connection with the investigation of the alleged sexual harassment. At a conference that morning, petitioner and Mr. Roth discussed the allegations against petitioner and a possible resolution of them. After this meeting, petitioner submitted a handwritten letter of resignation to Mr. Lueck.

Over the weekend of April 10 and 11, 1993, petitioner worked at Okabena to review tax files and clean up his desk. On April 10, 1993, petitioner and Mr. Lueck discussed petitioner's situation in petitioner's office at Okabena. During the discussion, Mr. Lueck informed petitioner that petitioner's resignation was unnecessary and that he should reconsider it.

On April 12, 1993, petitioner met with Mr. Lueck and withdrew his resignation. At the same time, petitioner requested an employment contract with Okabena and submitted a proposed handwritten employment2000 Tax Ct. Memo LEXIS 404">*407 contract for consideration. At this meeting, Mr. Lueck asked petitioner to leave the Okabena offices and not to return until further notice. Petitioner departed and never returned to Okabena.

THE NEGOTIATIONS

From April 15 to June 21, 1993, petitioner, Mr. Roth, Okabena officials, and Okabena's attorneys engaged in negotiations to resolve the matter and to formulate a severance package for petitioner. Several meetings were held regarding the terms and conditions of petitioner's termination from Okabena. The negotiations between Okabena and petitioner were adversarial.

At the first meeting, on or about April 15, 1993, petitioner and Mr. Roth met with Mr. Lueck, Robert Dayton, chairman of the board of Okabena, and Okabena's outside counsel. Okabena presented petitioner with the option either of being terminated or of submitting a voluntary resignation and accepting 12 months of severance pay. Petitioner rejected the offer and made a counteroffer proposing, among other things, that a portion of any funds paid be allocated to personal injuries in order to enable him to exclude such proceeds under section 104. Okabena asked petitioner to turn over his keys and not to return to Okabena's2000 Tax Ct. Memo LEXIS 404">*408 offices.

Additional negotiating sessions and conferences regarding the proposed settlement were held on April 16, 19, 20, and 21, 1993. On April 21, 1993, Mr. Lueck sent petitioner a termination letter confirming that Okabena had terminated petitioner's employment effective April 20, 1993.

Throughout the negotiations, petitioner threatened litigation against Okabena and specifically mentioned a potential claim for age discrimination, referring to a pattern of alleged age discrimination at Okabena. During these meetings, petitioner also mentioned claims of wrongful termination and defamation of character. Petitioner never filed a complaint against Okabena in any court.

THE SETTLEMENT AGREEMENT

On May 12, 1993, Okabena's counsel sent petitioner a draft settlement proposal. After extended negotiations over the terms of the proposed settlement agreement, a final settlement agreement (settlement agreement) and two releases were signed on June 21 and 22, 1993.

Pursuant to the settlement agreement, both petitioner and Okabena agreed to release all claims that either party had or might have against the other. The settlement agreement acknowledged the following facts, among others:

2000 Tax Ct. Memo LEXIS 404">*409      WHEREAS, Gross has alleged that certain matters relating to

   his employment with * * * [Okabena] and his separation from

   * * * [Okabena] give rise to legal claims against * * *

   [Okabena] for age discrimination; and

     WHEREAS, Gross claims that he is entitled to receive

   damages from * * * [Okabena] for loss of future income and for

   personal injuries, and to be reimbursed by * * * [Okabena] for

   his attorneys' fees and costs; and

     WHEREAS, * * * [Okabena] expressly denies that it may be

   liable to Gross on any basis or that it has engaged in any

   improper or unlawful conduct or wrongdoing against him * * *

The settlement agreement required Okabena to make several distinct categories of payments to or on behalf of petitioner. Three of those categories, severance payments, lump-sum payments, and liquidation payments, are at issue here. ³

2000 Tax Ct. Memo LEXIS 404">*410 SEVERANCE PAYMENTS

Under paragraph 3(a) of the settlement agreement, Okabena agreed to make 18 monthly payments of $ 10,417, less all applicable withholding, beginning on May 1, 1993, and concluding on October 31, 1994 (severance payments). Petitioners included these severance payments in gross income and paid the applicable Federal income taxes on these amounts in 1993 and 1994. The severance payments form the basis of petitioners' claim that they overpaid their Federal income taxes in 1993 and 1994 and are entitled to a refund.

THE LUMP-SUM PAYMENTS

Under paragraph 3(b) of the settlement agreement, Okabena agreed to make two lump-sum payments to petitioner -- one of $ 112,500 shortly after the settlement agreement was executed and a second payment of $ 100,000 on May 15, 1994 (lump-sum payments). Petitioner excluded the lump-sum payments from gross income as damages received on account of personal injuries.

THE LIQUIDATION PAYMENT

Under paragraph 5(a) of the settlement agreement, Okabena agreed to pay petitioner $ 516,907 for his interests in several Okabena investment entities (liquidation payment). Okabena made the required payment in 1993. Petitioner excluded the liquidation2000 Tax Ct. Memo LEXIS 404">*411 payment from gross income as damages received on account of personal injuries.

THE TAX CLAUSE

The settlement agreement also contained the following provision with respect to the tax treatment of the payments made to petitioner pursuant to the settlement agreement:

     7. PAYMENT OF TAXES. The parties expressly acknowledge that

   the payments to be made to Gross under subparagraph 3(b) of this

   Agreement [the lump-sum payments] are intended solely as

   compensation for claimed damages on account of alleged personal

   injuries arising from an occurrence within the meaning of

   Section 104(a)(2) of the Internal Revenue Code, the

   administrative regulations promulgated thereunder, and

   applicable case law. No part of the payments to be made to Gross

   under subparagraphs 3(b) or 5(a) [the liquidation payment] is

   allocable to punitive damages, compensation for other claimed

   damages, or interest thereon. The Company makes no

   representation or warranty to Gross or his attorneys regarding

   the tax treatment or consequences of any payment made to Gross

   under2000 Tax Ct. Memo LEXIS 404">*412 this Agreement by the Internal Revenue Service or any

   other tax authority. Gross will be solely responsible for the

   payment of any and all taxes of whatever kind that may be due or

   payable from him in connection with any payment made to him

   under this Agreement. Gross agrees to indemnify and hold

   harmless the Company from any and all liens, actions, or claims

   on the part of the Internal Revenue Service or any other tax

   authority in connection with any payment made to Gross under

   subparagraphs 3(b) or 5(a) of this Agreement. This indemnity and

   hold harmless agreement will apply as to the full amount of any

   such liens, actions, or claims, and as to the amount of any

   expenses incurred in connection therewith.

THE RELEASE

The release signed by petitioner defined the universe of claims released by petitioner in the settlement agreement as follows:

   "MY CLAIMS" means all of my existing rights to any relief of any

   kind from * * * [Okabena] or the Investments,([⁴]) whether or

   not I now know about those rights including, but not limited to:

2000 Tax Ct. Memo LEXIS 404">*413    1. all claims that arise out of or that relate to my employment

    or the termination of my employment with * * * [Okabena];

   2. all claims that arise out of or that relate to the statements

    or actions of * * * [Okabena] or the Investments;

   3. all claims for any alleged unlawful discrimination or any

    other alleged unlawful practices that arise out of or that

    relate to the statements or actions of * * * [Okabena] or the

    Investments, including, but not limited to, claims under the

    Civil Rights Act of 1964, the Age Discrimination in

    Employment Act, the Americans with Disabilities Act, the

    Civil Rights Act of 1991, the National Labor Relations Act,

    the Employee Retirement Income Security Act, the Minnesota

    Human Rights Act, the Minnesota Workers' Compensation Act,

    and any federal or state wage and hour laws; and claims that

    * * * [Okabena] or the Investments engaged in conduct

    prohibited on any other basis under any federal, state, or

    local statute, ordinance, or regulation;

2000 Tax Ct. Memo LEXIS 404">*414    4. All claims for alleged unpaid compensation, expenses, and

    employee benefits; wrongful discharge; breach of contract;

    breach of implied contract; breach of a covenant of good

    faith and fair dealing; breach of fiduciary duty; promissory

    or equitable estoppel; defamation; intentional or negligent

    infliction of emotional distress; fraud; negligent

    misrepresentation; negligence; assault and battery; false

    imprisonment; invasion of privacy; interference with

    contractual or business relationships; and any other wrongful

    employment practices;

   5. All claims for accountings, distributions, payments, and any

    other compensation from the Investments, except from Okabena

    Partnership V-8 and Energy Corporation E-2; and

   6. All claims for attorneys' fees, liquidated damages, punitive

    damages, costs, and disbursements.

   [Emphasis added.]

THE NOTICE OF DEFICIENCY

In his statutory notice of deficiency, respondent recharacterized the lump-sum payments as ordinary income taxable to petitioner when2000 Tax Ct. Memo LEXIS 404">*415 received in 1993 and 1994 and also determined that the liquidation payment was taxable to petitioner as proceeds from the sale or exchange of various capital assets; i.e., petitioner's interests in various Okabena partnerships and investments.

Petitioners timely petitioned this Court for redetermination of the deficiencies set forth in respondent's notice. In their petition, petitioners contested respondent's determinations and further alleged that respondent erred in failing to determine that petitioners were entitled to a refund of overpayments of income taxes for 1993 and 1994 resulting from petitioners' reporting of the severance payments as gross income.

OPINION

Gross income means all income from whatever source derived, unless excluded by law. See sec. 61(a); sec. 1.61-1(a), Income Tax Regs. Exclusions from income are construed narrowly, and taxpayers must bring themselves within the clear scope of the exclusion. See Commissioner v. Schleier, 515 U.S. 323">515 U.S. 323, 515 U.S. 323">336-337, 132 L. Ed. 2d 294">132 L. Ed. 2d 294, 115 S. Ct. 2159">115 S. Ct. 2159 (1995); United States v. Burke, 504 U.S. 229">504 U.S. 229, 504 U.S. 229">233, 119 L. Ed. 2d 34">119 L. Ed. 2d 34, 112 S. Ct. 1867">112 S. Ct. 1867 (1992); Mayberry v. United States, 151 F.3d 855">151 F.3d 855, 151 F.3d 855">859 (8th Cir. 1998); Dobra v. Commissioner, 111 T.C. 339">111 T.C. 339, 111 T.C. 339">349 n.16 (1998)2000 Tax Ct. Memo LEXIS 404">*416 (citing Graves v. Commissioner, 89 T.C. 49">89 T.C. 49, 89 T.C. 49">51 (1987), supplementing 88 T.C. 28">88 T.C. 28 (1987)). Petitioner bears the burden of proof with respect to whether he is entitled to an exclusion. See Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 290 U.S. 111">115, 78 L. Ed. 212">78 L. Ed. 212, 54 S. Ct. 8">54 S. Ct. 8 (1933).

Section 104(a)(2) excludes from gross income "the amount of any damages received (whether by suit or agreement and whether as lump sums or as periodic payments) on account of personal injuries or sickness". ⁵ "The term 'damages received (whether by suit or agreement)' means an amount received (other than workmen's compensation) through prosecution of a legal suit or action based upon tort or tort type rights, or through a settlement agreement entered into in lieu of such prosecution." Sec. 1.104-1(c), Income Tax Regs.

2000 Tax Ct. Memo LEXIS 404">*417

In order to exclude payments under section 104(a)(2) petitioner must show: (1) The underlying cause of action giving rise to the recovery is based upon tort or tort type rights, and (2) the damages were received on account of personal injuries or sickness. See 515 U.S. 323">Commissioner v. Schleier, supra at 337; 151 F.3d 855">Mayberry v. United States, supra at 858; Bagley v. Commissioner, 105 T.C. 396">105 T.C. 396, 105 T.C. 396">416 (1995), affd. 121 F.3d 393">121 F.3d 393 (8th Cir. 1997).

The tax consequences of payments made pursuant to a settlement agreement depend on the nature of the claims that were the actual basis for settlement, not on the validity of those claims. See 105 T.C. 396">Bagley v. Commissioner, supra at 406; Threlkeld v. Commissioner, 87 T.C. 1294">87 T.C. 1294, 87 T.C. 1294">1297 (1986), affd. 848 F.2d 81">848 F.2d 81 (6th Cir. 1988); Bent v. Commissioner, 87 T.C. 236">87 T.C. 236, 87 T.C. 236">244 (1986), affd. 835 F.2d 67">835 F.2d 67 (3d Cir. 1987); Seay v. Commissioner, 58 T.C. 32">58 T.C. 32, 58 T.C. 32">36-37 (1972); Burditt v. Commissioner, T.C. Memo 1999-117. The proper inquiry is: In lieu of what were damages awarded? See 105 T.C. 396">Bagley v. Commissioner, supra at 406. Determination of2000 Tax Ct. Memo LEXIS 404">*418 the nature of the claim is factual and is made by examining the relevant facts and circumstances. See id.; Burditt v. Commissioner, supra.

I.   WERE THE UNDERLYING CAUSES OF ACTION GIVING RISE TO THE PAYMENTS

   BASED UPON TORT OR TORT TYPE RIGHTS?

The first prong of the Schleier test requires a taxpayer to prove the existence of a claim based upon tort or tort type rights. See 515 U.S. 323">Commissioner v. Schleier, supra at 337. We must decide, therefore, whether petitioner's alleged claims were tort or tort type claims and whether the claims were bona fide, but not necessarily valid or sustainable. See Pipitone v. United States, 180 F.3d 859">180 F.3d 859, 180 F.3d 859">862 (7th Cir. 1999); Taggi v. United States, 35 F.3d 93">35 F.3d 93, 35 F.3d 93">96 (2d Cir. 1994). State law controls whether the nature of the claim is a tort or tort type right, and Federal law controls Federal tax consequences pertaining to such interests and rights. See Commissioner v. Tower, 327 U.S. 280">327 U.S. 280, 327 U.S. 280">288, 90 L. Ed. 670">90 L. Ed. 670, 66 S. Ct. 532">66 S. Ct. 532 (1946); 87 T.C. 1294">Threlkeld v. Commissioner, supra at 1305-1306; Barnes v. Commissioner, T.C. Memo 1997-25.

Petitioner asserts that two primary legal claims were the basis2000 Tax Ct. Memo LEXIS 404">*419 for his settlement with Okabena -- defamation and age discrimination.

The State of Minnesota recognizes a cause of action based on the tort of defamation. See Lake v. Wal-Mart Stores, Inc., 582 N.W.2d 231">582 N.W.2d 231, 582 N.W.2d 231">236 (Minn. 1998); Ferrell v. Cross, 557 N.W.2d 560">557 N.W.2d 560, 557 N.W.2d 560">562 (Minn. 1997); Bolton v. Department of Human Servs., 540 N.W.2d 523">540 N.W.2d 523 (Minn. 1995). General or compensatory damages received by way of settlement for injury to personal reputation and health caused by defamatory statements are exempt from taxation. See 58 T.C. 32">Seay v. Commissioner, supra at 40; Hawkins v. Commissioner, 6 B.T.A. 1023">6 B.T.A. 1023 (1927).

Under well-settled Minnesota law, in order to establish a prima facie case of defamation, the plaintiff must show (1) a statement was communicated to someone other than the plaintiff, (2) the statement was false, and (3) the statement tended to harm the plaintiff's reputation and to lower the plaintiff in the estimation of the community. See Lewis v. Equitable Life Assurance Socy. of the U.S., 389 N.W.2d 876">389 N.W.2d 876, 389 N.W.2d 876">886 (Minn. 1986); Stuempges v. Parke, Davis & Co., 297 N.W.2d 252">297 N.W.2d 252, 297 N.W.2d 252">255 (Minn. 1980).2000 Tax Ct. Memo LEXIS 404">*420 "Slanders affecting the plaintiff in his business, trade, profession, office or calling are slanders per se and thus actionable without any proof of actual damages." 297 N.W.2d 252">Stuempges v. Parke, Davis & Co., supra at 255.

The record in this case establishes that petitioner made a bona fide claim of defamation against Okabena. Petitioner testified that immediately following the allegation of sexual harassment, Okabena commenced an investigation into the matter, and each female employee at Okabena was interviewed by its outside counsel. Petitioner testified that when the female employees returned to the office, they were "totally pale and really shook up". At that point, petitioner felt his rights were violated. Petitioner immediately hired legal counsel and resigned the next day because he felt he no longer could manage the employees at Okabena effectively as a result of the damage to his reputation. The investigation, including the interviews of employees petitioner supervised, affected petitioner's personal and professional reputation adversely, and his relationships with employees quickly deteriorated.

Although petitioner could not point to a specific defamatory comment, petitioner's2000 Tax Ct. Memo LEXIS 404">*421 belief that he had been defamed was made in good faith and was not frivolous. In addition, because settlement negotiations began promptly after the harassment claim was made and the investigation was conducted, petitioner and his counsel had no opportunity to discover precisely what had been said and to whom. If litigation had been filed, that opportunity would have been available to petitioner and his counsel. The important fact here, however, is that petitioner asserted a nonfrivolous claim for defamation in good faith, and that claim was taken into account by both Okabena and petitioner in negotiating their settlement agreement.

We find that petitioner had asserted a bona fide claim for defamation at the time the settlement agreement was executed; therefore, the first element of Schleier is met. ⁶

Petitioner asserts that his age discrimination claim was grounded upon the Minnesota Human Rights Act, Minn. Stat. Ann. secs. 363.01-363.15 (West 1991 & Supp. 2000), and not the Age Discrimination in Employment Act of 1967 (ADEA), Pub. L. 90-202, sec. 2, 81 Stat. 602, currently codified at 29 U.S.C. secs. 621-634 (1994), due to jurisdictional limitations of the ADEA. ⁷ Petitioner asserts that the Minnesota Human Rights Act is a broad statute that provides for tort or tort type remedies, including compensatory damages, punitive damages, and damages for mental anguish and suffering.

2000 Tax Ct. Memo LEXIS 404">*423

The U.S. Supreme Court has held that amounts received by a taxpayer in settlement of an age discrimination claim under the ADEA are not excludable from gross income under section 104(a)(2) because the ADEA provides no compensation "for any of the other traditional harms associated with personal injury". Commissioner v. Schleier, 515 U.S. 323">515 U.S. at 335; see also United States v. Burke, 504 U.S. 229">504 U.S. 229, 119 L. Ed. 2d 34">119 L. Ed. 2d 34, 112 S. Ct. 1867">112 S. Ct. 1867 (1992) (backpay awards in settlement of claims brought under title VII of Civil Rights Act of 1964, Pub. L. 88-352, 78 Stat. 253, as amended, 42 U.S.C. secs. 2000e through 2000e-17 (1994), are not damages received on account of personal injuries within meaning of section 104(a)(2) and must be included in income because Act does not provide remedies for personal injuries). But cf. Bent v. Commissioner, 87 T.C. 236">87 T.C. 249 (gross income does not include damages received under 42 U.S.C. sec. 1983 claim based on violation of First Amendment rights to free speech). In Schleier, the Supreme Court concluded that monetary remedies under the ADEA are either of an "economic character" or liquidated damages, which serve no compensatory2000 Tax Ct. Memo LEXIS 404">*424 function. 515 U.S. 323">Commissioner v. Schleier, supra at 336. Thus, a recovery under the ADEA is not one "based upon tort or tort type rights." Id. In Schleier, the Court emphasized that "one of the hallmarks of traditional tort liability is the availability of a broad range of damages to compensate the plaintiff 'fairly for injuries caused by the violation of his legal rights.'" 515 U.S. 323">Id. at 335; see also Mayberry v. United States, 151 F.3d 855">151 F.3d at 859 ("the proper focus is the remedial scheme in the statute providing the cause of action and the nature of the relief available under the scheme").

In contrast, an age discrimination claim pursued under the Minnesota Human Rights Act appears to be "based upon tort or tort type rights." 515 U.S. 323">Commissioner v. Schleier, supra at 336. ⁸ The Minnesota Human Rights Act specifically provides for damages other than those of a purely economic nature. For example, in all cases where there is a finding of unfair discrimination, as defined in Minn. Stat. Ann. sec. 363.03, subd. 1, the person against whom the complaint has been filed or issued shall pay a civil penalty to the State and compensatory damages to the aggrieved2000 Tax Ct. Memo LEXIS 404">*425 party in an amount up to three times the actual damages sustained. See Minn. Stat. Ann. sec. 363.071, subd. 2 (West 1991 & Supp. 2000). Damages for mental anguish or suffering, reasonable attorney's fees, and punitive damages also may be awarded to the aggrieved party. See id. ⁹ Thus, we conclude that the Minnesota Human Rights Act compensates an aggrieved party for "the other traditional harms associated with personal injury." 515 U.S. 323">Commissioner v. Schleier, supra at 336.

2000 Tax Ct. Memo LEXIS 404">*426

Under the Minnesota Human Rights Act, it is an unfair employment practice for an employer to discharge an employee because of age. See Minn. Stat. Ann. sec. 363.03, subd. 1(2)(b). In order to prove a prima facie case of age discrimination under Minnesota law, a plaintiff must show: (1) He was a member of a protected class, ¹⁰ (2) he was qualified for the position he held, (3) despite his qualifications, his position was terminated, and (4) a younger person was assigned to do his work. See Ward v. Employee Dev. Corp., 516 N.W.2d 198">516 N.W.2d 198, 516 N.W.2d 198">201 (Minn. Ct. App. 1994). Minnesota law permits plaintiffs to use circumstantial evidence to prove discriminatory intent. See Feges v. Perkins Restaurants, Inc., 483 N.W.2d 701">483 N.W.2d 701, 483 N.W.2d 701">710 (Minn. 1992).

The record confirms2000 Tax Ct. Memo LEXIS 404">*427 that petitioner had a nonfrivolous claim of age discrimination under the Minnesota Human Rights Act, which he asserted in good faith. By reason of his age, petitioner was a member of a protected class under the Minnesota Human Rights Act when Okabena terminated his employment. See Minn. Stat. Ann. sec. 363.01, subd. 3. Petitioner was qualified for his position; indeed, petitioner was employed at Okabena for 16 years and received at least two promotions during that period. Petitioner was terminated from Okabena and replaced with a younger worker. ¹¹ Petitioner also testified that during the negotiations he specifically mentioned a potential claim for age discrimination and pointed to a specific pattern of discrimination against Okabena employees.

We find, therefore, that petitioner also had asserted a bona fide claim of age discrimination at the time the settlement2000 Tax Ct. Memo LEXIS 404">*428 agreement was executed.

II.  WERE THE PAYMENTS RECEIVED ON ACCOUNT OF PERSONAL INJURIES OR

   SICKNESS?

The second prong of the Schleier test requires a taxpayer to show that the payments were received on account of personal injuries or sickness. See sec. 104(a)(2); Commissioner v. Schleier, 515 U.S. 323">515 U.S. at 337. In order to satisfy Schleier, a causal connection must be established between the tort, the personal injury resulting, and the amount received in settlement. See O'Gilvie v. United States, 519 U.S. 79">519 U.S. 79, 519 U.S. 79">82-83, 136 L. Ed. 2d 454">136 L. Ed. 2d 454, 117 S. Ct. 452">117 S. Ct. 452 (1996); 515 U.S. 323">Commissioner v. Schleier, supra at 329- 331. Each element of the tort settlement must be examined to determine whether there is a direct causal link between that element and the personal injury or sickness. See 515 U.S. 323">Commissioner v. Schleier, supra at 330.

Petitioners assert that they erroneously included the severance payments in their gross income and that, as a result, they have overpaid their Federal income taxes for 1993 and 1994 and are entitled to a refund. We disagree.

Generally, severance pay, like the pay it replaces, is includable in income. See sec. 61(a)(1); Lubart v. Commissioner, 154 F.3d 539">154 F.3d 539 (5th Cir. 1998),2000 Tax Ct. Memo LEXIS 404">*429 affg. T.C. Memo 1997-343; Keel v. Commissioner, T.C. Memo 1997-278; sec. 1.61-2(a)(1), Income Tax Regs. Where, as here, the settlement agreement lacks express language stating that the payment was (or was not) made on account of personal injury, the most important factor in determining whether the payments are excluded from income is the intent of the payor. See Knuckles v. Commissioner, 349 F.2d 610">349 F.2d 610, 349 F.2d 610">613 (10th Cir. 1965), affg. T.C. Memo 1964-33; Bagley v. Commissioner, 105 T.C. 396">105 T.C. 406; Bent v. Commissioner, 87 T.C. 236">87 T.C. 244; Laber v. Commissioner, T.C. Memo 1997-559.

Petitioner has not presented any credible evidence to prove that Okabena's intent was other than to provide him with severance pay under the settlement agreement. To the contrary, the evidence establishes that Okabena intended the payments to be exactly what they purported to be -- severance payments. The severance payments were made over a period of 18 months in amounts equal to petitioner's salary before he was terminated. Okabena continued to process and withhold Federal taxes on the severance payments2000 Tax Ct. Memo LEXIS 404">*430 as it did with other employees' salaries. The fact that the severance payments were treated as "wages" and taxes were withheld provides compelling evidence that the payments were not intended to be compensation for personal injuries. See Mayberry v. United States, 151 F.3d 855">151 F.3d at 860-861.

Petitioners contend that, under Roemer v. Commissioner, 716 F.2d 693">716 F.2d 693 (9th Cir. 1983), revg. 79 T.C. 398">79 T.C. 398 (1982), and Threlkeld v. Commissioner, 87 T.C. 1294">87 T.C. 1294 (1986), when payments are based on amounts of income lost due to tortious conduct, the amounts received by the tort plaintiff or prospective tort plaintiff are exempt from taxation pursuant to section 104(a)(2).

In this case, we are not presented with the problem of determining the correct tax treatment of a lump-sum payment, which may or may not have encompassed lost income, as the courts faced in Roemer and Threlkeld. Here, the parties to the settlement agreement carefully drafted the settlement agreement so as to separate the severance payments from other types of payments, including lump-sum payments that, in fact, were made to compensate petitioner for his alleged personal injuries. Under the2000 Tax Ct. Memo LEXIS 404">*431 circumstances of this case, the failure of the settlement agreement to provide that the severance payments were intended to compensate petitioner for personal injuries is compelling evidence that the severance payments were not made for that purpose. The settlement agreement contains a specific provision acknowledging that the lump-sum payments made to petitioner were intended "solely as compensation for claimed damages on account of personal injuries arising from the occurrence within the meaning of Section 104(a)(2)". No such provision was included with respect to the severance payments. The settlement agreement also indicated that the severance payments were subject to withholding taxes.

On this record, we can find no causal link between the severance payments and petitioner's alleged tort claims. There is no evidence that the severance payments were made in settlement of petitioner's alleged claims for defamation and age discrimination or that the severance payments were made on account of personal injury or sickness. See sec. 104(a)(2); Commissioner v. Schleier, 515 U.S. 323">515 U.S. at 337; Agar v. Commissioner, 290 F.2d 283">290 F.2d 283, 290 F.2d 283">284 (2d Cir. 1961) (despite taxpayer's2000 Tax Ct. Memo LEXIS 404">*432 belief that company paid him to avoid litigation, payments were in nature of severance payments and were not excludable from income under section 104(a)(2)), affg. T.C. Memo 1960-21.

We conclude that the severance payments were not made to petitioner "on account of personal injuries", and no personal injury affected the amount of the severance payments received. Sec. 104(a)(2); 515 U.S. 323">Commissioner v. Schleier, supra at 330. The severance payments properly were included in petitioners' 1993 and 1994 gross income, and petitioners properly paid Federal income taxes on the severance payments. Petitioners are not entitled to their claimed refund.

Paragraph 7 of the settlement agreement specifically stated that the lump-sum payments were "intended solely as compensation for claimed damages on account of alleged personal injuries arising from an occurrence within the meaning of Section 104(a)(2)". Where, as here, there is an express allocation contained in the agreement between the parties, it generally will be respected if the settlement agreement was negotiated by parties with adversarial interest, at arm's length, and in good faith. See Bagley v. Commissioner, 105 T.C. 396">105 T.C. 406;2000 Tax Ct. Memo LEXIS 404">*433 Robinson v. Commissioner, 102 T.C. 116">102 T.C. 116, 102 T.C. 116">133-134 (1994), affd. on this issue 70 F.3d 34">70 F.3d 34 (5th Cir. 1995); Burditt v. Commissioner, T.C. Memo 1999-117. However, an express allocation is not necessarily determinative if other facts indicate that the payment was intended by the parties to be for a different purpose. See 105 T.C. 396">Bagley v. Commissioner, supra at 406.

We are satisfied that Okabena intended the lump-sum payments to compensate petitioner for his personal injury claims. Okabena recognized that petitioner had bona fide claims for defamation and age discrimination at the time of the settlement agreement and agreed to make the lump-sum payments "on account of" petitioner's personal injuries. When Mr. Dayton was asked at trial whether petitioner's personal injuries were of concern to Okabena at the time the settlement was made, Mr. Dayton responded: "To a certain degree. Yes." When Mr. Dayton was asked, "And why was that concern to the company?", he responded: "Well, I think we were concerned about Ron's well-being, at that point. He has -- was a long-time employee of Okabena. But the overriding factor was that we were just trying to2000 Tax Ct. Memo LEXIS 404">*434 agree -- to reach an agreeable settlement between both parties." Before finalizing the settlement agreement, Okabena evaluated petitioner's defamation and discrimination claims and certainly was aware of petitioner's allegations that his reputation and his professional career had been damaged severely by Okabena's actions.

We find that Okabena made the lump-sum payments "in lieu of" petitioner's prosecution of his tort claims. Id.; see also sec. 1.104-1(c), Income Tax Regs. We hold, therefore, that the lump-sum payments are excludable from petitioner's income under section 104(a)(2).

Paragraph 5(a) of the settlement agreement clearly and expressly states the purpose for making the liquidation payment to petitioner: "[Okabena] will pay Gross $ 516,907.33 * * * as the value of his interests in the partnerships and other investments, except Okabena Partnership V-8 and Energy Corporation E-2". The carefully structured settlement agreement does not designate the liquidation payment as compensation for alleged personal injuries.

The liquidation payment was not made to petitioner "on account of personal injury or sickness"; rather, petitioner2000 Tax Ct. Memo LEXIS 404">*435 received the liquidation payment because he terminated his employment with Okabena and liquidated his interests in Okabena investment entities. The liquidation of petitioner's interests in the investment entities was prompted by the desire of petitioner and Okabena to sever most of petitioner's ties with Okabena.(12) The liquidation payment was not in lieu of litigation of petitioner's alleged defamation or age discrimination claim. We conclude, therefore, that petitioner is not entitled to exclude the liquidation payment from his income under section 104(a)(2) because the liquidation payment was not received "on account of personal injuries or sickness." Commissioner v. Schleier, 515 U.S. 323">515 U.S. at 330. The payment received by petitioner comprised the proceeds from the sale of capital assets and must be included in income as such in the year it was received.

We have carefully considered all remaining arguments made by the parties for contrary holdings and, to the extent not discussed, conclude they are irrelevant or without merit.

To reflect the foregoing,

Decision will be entered under Rule 155.

(12)Petitioner retained his interests in two of the Okabena2000 Tax Ct. Memo LEXIS 404">*436 investment entities under certain supplemental agreements that were modified as part of the settlement.