Just received letter from the IRS stating 2nd economic stimulus check "EIP2 isn't taxable income and should not be reported" TurboTax requests & lowers my refund, why?

It depends on how the details of the stimulus were entered in TurboTax. You are correct that stimulus payments are not taxed at the federal level. 

 

These payments should be entered as received in the stimulus payment section for the Recovery Rebate Credit.

 

To do this in TurboTax, follow these steps:

1. Go to the search box and enter stimulus. Click the Jump to link.
2. Answer Yes.
3. At the next screen, Let's double-check the amount you received, answer No to edit the first-round and second-round amounts.
4. If no stimulus amount was received, enter 0. An amount must be entered in each box. When finished, click Continue.

For more information, see: Recovery Rebate Credit Frequently Asked Questions | Internal Revenue Service