No, box 7 code 3 does not mean it is a non taxable distribution.
If you take a retirement distribution because of disability, the distribution is taxed as wages until you reach the minimum retirement age.
Distributions
from an IRA or a pension plan to a taxpayer that has been made due to
their Disability is fully taxable to the taxpayer unless the owner had
made non-deductible contributions to the IRA or other non-deductible
contributions to a pension plan. However, such a distribution is not
subject to the 10% early withdrawal penalty, regardless of the age of
the taxpayer.
Retirement age is the earliest age you are eligible to
receive a pension or annuity from your employer, if you had not been
disabled. Most often that is age is 55, but it can vary from one company
to another.
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