Income received while in a halfway house, while incarcerated or in a work release program doesn't qualify as earned income for the Earned Income Tax Credit. Other than that, you would just report the income as usual.
Pay received for work while an inmate is not considered earned income and does apply toward calculating the Earned Income Credit. If any income was received in this scenario, it needs to be reported.
Could you answer why someone who has not been to prison be asked this question?
EVERYONE is asked that question in the W-2 entry interview section (where it matters as mentioned in this thread ) since it is not asked anywhere else in the interview tree ... don't be offended by the question anymore than if it asks if you own a home or have kids to claim.