Are disability benefits a city pays to injured employees under the Public Employee Disability Act (PEDA) subject to Illinois income tax withholding?

Plain-English summary

A city government in Illinois — which employs firefighters, police officers, and other workers — asked the Illinois Department of Revenue whether disability benefits it pays to employees injured on the job under the Public Employee Disability Act (PEDA), 5 ILCS 345/1(b), must have Illinois income tax withheld. Under PEDA, an injured employee continues to be paid on the same basis as before the injury, for up to one year, without any deduction from sick leave, compensatory time, vacation, or pension service credits. The city had been withholding Illinois income tax from these PEDA payments and reporting the withheld amounts on the employee's W-2, but wanted to confirm whether that treatment was correct.

The Department explained that Illinois income tax is based on "base income," and under Illinois Income Tax Act (IITA) Section 203(a), an individual's base income starts with the taxpayer's federal adjusted gross income (AGI), adjusted by certain statutory additions and subtractions. So, absent a specific Illinois modification, any item that is included in (or excluded from) a taxpayer's federal AGI is included in (or excluded from) that taxpayer's Illinois base income in the same way. Applying that rule here, the Department held that whether PEDA payments are part of an employee's Illinois base income turns entirely on whether those same payments must be included in the employee's federal AGI. If the payments are included in federal AGI, they are also included in Illinois base income; if they are excluded from federal AGI (the ruling points to 26 U.S.C. 104(a) and 26 C.F.R. 1.104-1(b), which can exclude certain injury-related payments from federal gross income), they are excluded from Illinois base income too.

The ruling then addressed withholding specifically. IITA Section 701(a) requires employers doing business in Illinois to withhold Illinois income tax on compensation paid in the state, but Department Regulation Section 100.7000(a) makes clear that Illinois withholding is not required on compensation that is not subject to federal income tax withholding. IITA Section 701(b) further ties Illinois withholding to whether federal withholding applies and whether the payment is included in the recipient's base income. Putting these pieces together, the Department concluded that Illinois withholding on PEDA payments is required only if the payments (1) are included in the employee's base income, (2) are subject to federal income tax withholding, and (3) otherwise qualify as compensation paid in Illinois under Section 701(a) or (b).

Because the city's letter had originally asked for a binding Private Letter Ruling under 86 Ill. Adm. Code 1200.110, but the facts and request were better suited to general guidance, the Department instead issued this General Information Letter (GIL) under 86 Ill. Adm. Code 1200.120(b) and (c). A GIL is explicitly non-binding and does not state Department policy — it points the taxpayer to the relevant law and regulations rather than resolving the specific facts. The Department noted the city could still request a binding Private Letter Ruling if it submitted the information required under Section 1200.110(b).

What this means for you

If you are a public employer paying disability benefits

The taxability and withholding treatment of disability-type payments (such as PEDA benefits to injured public safety employees) is not a fixed "yes" or "no" — it depends on the federal income tax treatment of the specific payments. Before deciding whether to withhold Illinois income tax, you need to determine whether the payments are included in the employee's federal AGI and are subject to federal withholding. If they are, Illinois withholding is generally required (assuming the compensation-paid-in-Illinois tests of IITA Section 701 are met); if the payments are excluded from federal AGI (for example, under the federal injury/sickness exclusion in 26 U.S.C. 104(a)), no Illinois withholding is required on those amounts.

If you want a binding answer instead of general guidance

This letter is a General Information Letter, not a Private Letter Ruling, so it is not binding on the Department and does not resolve the taxpayer's specific facts with legal certainty. If you need a binding determination for your specific situation, you must submit a request that includes all the information described in items 1 through 8 of 86 Ill. Adm. Code 1200.110(b).

Common questions

Are Public Employee Disability Act (PEDA) benefits automatically taxable for Illinois income tax purposes?
No. The ruling states there is no automatic answer — PEDA benefits are included in Illinois base income only if the same payments must be included in the employee's federal adjusted gross income (AGI).

Does the Department address whether PEDA payments are excludable from federal AGI?
The Department did not decide that question in this letter. It noted that amounts can be excluded from federal AGI "for example, under 26 U.S.C. 104(a) and 26 C.F.R. §1.104-1(b)," but left it to the employer to determine the actual federal tax treatment of the specific payments.

How does this compare to workers' compensation payments?
The taxpayer's submission noted that temporary total disability (TTD) benefits under the Illinois Workers' Compensation Act, 820 ILCS 305/1 et seq., are not subject to income tax, and argued that PEDA benefits might be treated similarly by analogy — though the letter notes PEDA is a separate and distinct statute from the Workers' Compensation Act, and PEDA benefits are paid at full salary rather than a percentage of average weekly wage as under TTD.

Why did the Department issue a General Information Letter instead of the Private Letter Ruling the city requested?
The city's letter asked for a Private Letter Ruling under 86 Ill. Adm. Code 1200.110, but also asked that a GIL be issued instead if the Department declined to issue a private ruling. The Department determined that the nature of the request and information provided required a General Information Letter response under 86 Ill. Adm. Code 1200.120(b) and (c), which is designed to provide general information and is not binding on the Department.

Citations and references

• 5 ILCS 345/1(b) — Public Employee Disability Act, continued-pay provision for employees injured in the line of duty
• 35 ILCS 5/201(a) — Illinois Income Tax Act, imposition of tax measured by net income
• 35 ILCS 5/202 — IITA definition of "net income" for individuals
• 35 ILCS 5/203(a) — IITA definition of "base income" as federal AGI plus/minus statutory modifications
• 35 ILCS 5/204 — IITA standard exemption
• 35 ILCS 5/701(a), (b) — IITA employer withholding requirements
• 86 Ill. Adm. Code 1200.120(b), (c) — General Information Letters, non-binding nature
• 86 Ill. Adm. Code 1200.110 — Private Letter Ruling request requirements
• 86 Ill. Adm. Code 1200.100 — Circumstances in which the Department may decline to issue a Private Letter Ruling
• Illinois Department of Revenue Regulations Section 100.7000(a) — withholding not required on compensation not subject to federal income tax withholding
• 26 U.S.C. 104(a) — federal exclusion for certain injury/sickness-related payments
• 26 C.F.R. 1.104-1(b) — federal regulation interpreting the Section 104(a) exclusion
• 820 ILCS 305/1 et seq. — Illinois Workers' Compensation Act (referenced for comparison)

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2017.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2017/it-17-0002-gil.pdf

Original ruling text

IT 17-0002-GIL 1/12/2017 BASE INCOME – DISABILITY PAY
Base income includes payments under Public Employee Disability Act only if
Federal AGI. (This is a GIL)

included in

January 12, 2017

Dear Xxxxx:
This is in response to your letter dated December 23, 2016, in which you requested a letter ruling.
The nature of your request and the information you have provided require that we respond with a
General Information Letter, which is designed to provide general information, is not a statement
of Department policy and is not binding on the Department. See 86 Ill. Adm. Code 1200.120(b)
and (c), which may be found on the Department's web site at www. tax.illinois.gov.
Your letter states as follows:
Please consider this correspondence a request for a Private Letter Ruling pursuant
to Section 1200.110 of the Illinois Administrative Code. This request for a private
letter ruling is made on behalf of the CITY, Illinois. Prior to issuing a ruling, please
advise if this request requires a fee, and if so the amount of that fee. Additionally, if
for any reason this Department declines to issue a private letter ruling pursuant to
Section 1200.100, the CITY
respectfully requests that a general information letter be issued in accordance with
Section 1200.120. Please advise if there is a fee associated with a general
information letter, if necessary.
This request for a private letter ruling is in regards to whether, pursuant to Illinois
state income tax, benefits received under the Public Employee Disability Act, 5 ILCS
345/1/(b), is subject to income tax withholding.

1. Statement of Facts:
   The CITY is a governmental employer who employs a variety of positions,
   including firefighters and police officers. A portion of the City’s employees
   may collect benefits pursuant to the Public Employee Disability Act when they
   are injured in the scope of their employment. The pertinent issue is whether
   those benefits collected under the Public Employee Disability Act are
   considered taxable income thereby requiring that income tax be withheld from
   payments received by the employee. Pursuant to the Illinois Public Employee
   Disability Act (hereinafter referred to as “PEDA”), the pertinent section is
   Section 1b, which states:
   Whenever an eligible employee suffers an injury in the line of duty
   which causes him to be unable to perform his duties, he shall continue
   to be paid by the employing public entity on the same basis as he was
   paid before the injury, with no deduction from his sick leave credits,
   compensatory time for overtime accumulations or vacation, or service
   credits in public employee pension fund during the time he is unable

to perform his duties due to the result of the injury, but no longer than
one year in relation to the same injury. 5 ILCS 345/1(b)
The CITY had been paying eligible employees pursuant to PEDA on
the same basis as they were paid before the injury, meaning
withholding Illinois state income tax and reflecting the amount withheld
on the applicable W2.

2. There are no contracts, licenses, agreement, instruments or other documents
   relevant to this request.
3. The tax period at issue is 2015 to 2016. There is no pending audit or litigation.
4. To the best of the CITY and its representative, pursuant to the power of attorney
   submitted, the Department has not previously ruled on the same or a similar
   issue for the tax payer or a predecessor. Additionally, to the best of the CITY
   and its representative’s knowledge, pursuant to the power of attorney submitted,
   the CITY has not previously submitted the same or a similar issue to the
   Department but withdrew it before a letter ruling was issued.
5. Statement of authorities supporting taxpayer’s view:
   The authority supporting the CITY’S view on the taxability of PEDA benefits
   is the plain language of the statute. The CITY’S representative could not find
   any Illinois authority addressing this issue. As stated above, the statute
   provides that:
   Whenever an eligible employee suffers an injury in the line of duty
   which causes him to be unable to perform his duties, he shall
   continue to be paid by the employing public entity on the same
   basis as he was paid before the injury, with no deduction from
   his sick leave credits, compensatory time for overtime
   accumulations or vacation, or service credits in public employee
   pension fund during the time he is unable to perform his duties due to
   the result of the injury, but no longer than one year in relation to the
   same injury. 5 ILCS 345/1(b) (emphasis added)
   The language of the statute dictates how benefits are to be paid pursuant to
   the statute. First, the statute notes that the employee should be paid “on the
   same basis as he was paid before the injury.” This would indicate that on
   the same basis as he was paid before would include the withholding of income
   tax, particularly state income tax. The statute goes on to have a specific list
   regarding what should not be deducted, including no deduction from sick leave
   credits, compensatory time for overtime accumulations or vacations, or service
   credits in a public employee pension fund. Given that there is a specific list on
   what should not be deducted from the pay, this implies a conscious decision
   on the part of the legislature which does not state that there should be no
   deduction of income tax. Additionally, allowing employees receiving PEDA
   benefits to have an exception from income tax would provide the employee
   with a windfall which would result in non-injured employees being treated
   differently than those employees receiving PEDA benefits. Lastly, providing a
   windfall to an employee does not provide an incentive to return to work as they
   would be receiving more income than if they were working. Therefore, using

the plain language of the statute along with the implications of the
interpretation of the statute, there should be tax withheld from those Public
Employee Disability Act benefits which are paid.

6. Statement of authorities contrary to the taxpayer’s view:
   The CITY’s representative could not find any Illinois authority addressing this
   issue. However, the Illinois Worker’s Compensation Act could be construed
   to be a contrary authority, though notably the Workers’ compensation Act is
   separate and distinct Act from the Public Employee Disability Act.
   Pursuant to the Worker’s Compensation Act, and injured employee receives
   a percentage of their income for temporary total disability. Temporary total
   disability payments are calculated using the injured employee’s average
   weekly wage multiplied 66 and 2/3. Benefits received pursuant to TTD are
   not subject to income tax. See 820 ILCS 305/1 et. al.
   An analogous interpretation could be made to the Workers’ Compensation
   Act in which Public Employee Disability benefits are also not subject to a
   deduction in Illinois State income tax, despite PEDA benefits being paid at full
   salary while TTD benefits pursuant to the Workers’ Compensation Act are
   paid at a percentage of the injured employee’s average weekly wage.
7. There is no specific trade secret information that the taxpayer requests to be
   deleted from the publically disseminated version of the private letter ruling.
   Thank you for your time and attention to this request. Please do not hesitate to
   contact me should you require any additional information.

RULING
Section 201(a) of the Illinois Income Tax Act (“IITA”; 35 ILCS 5/201) imposes a tax, measured by
“net income,” upon every individual, corporation, trust and estate for the privilege of earning or
receiving income in or as a resident of the State. IITA section 202 defines “net income” in the
case of an individual as that portion of the taxpayer’s “base income” allocable to Illinois under the
provisions of Article 3, less the standard exemption allowed under section 204. In the case of an
individual, IITA section 203(a) defines the term “base income” to equal the taxpayer’s adjusted
gross income (AGI) for federal income tax purposes, as modified by certain statutorily prescribed
addition and subtraction modification. Therefore, absent a modification any item of income that
is included or excluded in the computation of a taxpayer’s federal (AGI) is likewise included or
excluded in the computation of the taxpayer’s Illinois base income.
In the present case, whether amounts received by city employees pursuant to the Public
Employee Disability Act are included in the employee’s Illinois base income depends on whether
the same amounts must be included in the employee’s federal AGI. If such amounts must be
included in federal AGI, they must also be included in Illinois base income. If the amounts are
excluded from federal AGI (for example, under 26 U.S.C 104(a) and 26 C.F.R. §1.104-1(b)), then
the same are excluded from Illinois base income.
Section 701(a) of the IITA requires every employer maintaining an office or transacting business
in Illinois to withhold Illinois income tax on compensation paid in the State. Regarding this
provision, Department Regulations section 100.7000(a) states that Illinois income tax is not

required to be withheld on any compensation paid in this State of a character which is not subject
to federal income tax withholding (whether or not such compensation is subject to withholding for
federal taxes other than income tax, e.g., F.I.C.A. (Social Security taxes). Section 701(b) of the
IITA state that any payment to an Illinois resident by a payor maintaining an office or transacting
business in Illinois and on which federal income tax withholding is required, shall be deemed
compensation paid in this State for purposes of Section 701(a) to the extent such payment is
included in the recipient’s base income and is not subject to withholding by another state.
In the present case, Illinois withholding is required with respect amounts received by city
employees pursuant to the Public Employee Disability Act only if such amounts are included in
base income, subject to federal income tax withholding, and constitute compensation paid in this
State under the provisions of IITA Section 701(a) or (b).
As stated above, this is a general information letter which does not constitute a statement of policy
that applies, interprets or prescribes the tax laws, and it is not binding on the Department. If you
are not under audit and you wish to obtain a binding Private Letter Ruling regarding your factual
situation, please submit all of the information set out in items 1 through 8 of Section 1200.110(b).
If you have any further questions, you may contact me at (217) 782-2844.

Sincerely,

Brian L. Stocker
Associate Counsel (Income Tax)