Which scenario allows for the exclusion of a prize or award from taxable income?

The exclusion of a prize or award from taxable income generally applies to scenarios where the recipient has not engaged in any effort or action to earn the prize. In this context, when a recipient does nothing to earn the prize or award, it aligns with certain provisions in the tax code that allow for exclusions under specific circumstances. For instance, prizes awarded in recognition of an outstanding achievement, such as a Nobel Prize, can sometimes be excluded from income if the individual did not enter a competition or perform services to receive the award.

In contrast, situations where the recipient plans to sell the prize for profit, receives an award to honor a celebrity, or performs services to obtain the prize typically do not qualify for exclusion. When a prize is awarded in exchange for services or as part of a competition, it is considered taxable income since there was a reciprocal benefit involved. This highlights the importance of the underlying reason for receiving the prize in determining whether it is taxable.