I have mixed feelings about this. I think it's a case of both sides being wrong and no one to root for.

From IRS Pub 525:

Court awards and damages. To determine if settlement amounts you receive by compromise or judgment must be included in your income, you must consider the item that the settlement replaces. The character of the income as ordinary income or capital gain depends on the nature of the underlying claim. Include the following as ordinary income.

1. [...]
3. Punitive damages, in most cases. It does not matter if they relate to a physical injury or physical sickness.
4. [...]

I hear you Doohickie, but I ultimately have to root for the individual and not the big bad old collections companies. I have heard/read far too often of collection agencies stooping to extortion tactics to secure debt repayment. They bombard and bully far too often. I myself have received awful phone calls looking for one of my sisters, who is in arrears up to her eyeballs on so many things. I have asked repeatedly to STOP CALLING ME. I don't know how they got my cell phone number, my home phone number, my address, etc. They for a period of time harassed me, my brother and my parents. Finally it stopped, but I think my mother got an attorney involved. I can't help but be a little tickled to hear that you DON'T have to put up with it, and that people are fighting back. Score one for the little guy.