Under normal circumstances, preparing all but the simplest tax returns can be confusing and stressful. For many military taxpayers, there is no such thing as a simple return.
Along with military service often comes unique circumstances and stresses, including frequent repostings and deployments in combat zones. In recognition of the unique contributions of service members — including active duty, reserve, National Guard, and retired — the government has created a number of tax benefits for the military.
Military service members who are stationed in the United States are required to pay any taxes due by the mid-April filing deadline, just like civilians. Service members who are stationed outside of the U.S. for the entirety of tax filing season (January-April) have until June 15 to file and pay any taxes due.
Eligible members who are posted abroad and wish to take advantage of the late filing and payment deadline are not required to file an extension (the automatic two-month extension is available to all U.S. taxpayers who live outside the U.S.).
Regardless of which filing deadline you use, payments are due on the appropriate date. Like civilians, military personnel may file an IRS Form 4868 to request a filing extension, which is good until mid-October.
Soldiers and sailors who are deployed to combat zones (designated by an executive order from the president) during tax filing season are entitled to an automatic extension of 180 days plus any unused days.
For example, a service member who is deployed to a combat zone on March 15 is granted an extra 30 days in addition to the 180-day combat zone extension for a total of 210 days. The extension applies to filing, payment, and the assessment of interest and penalties. The automatic extension applies to all income, including nonservice-related income.
In recognition of the risk that military service members face when serving in a combat zone, the government excludes military pay from gross federal income tax for the period members are deployed in a combat zone. Soldiers, sailors, and airmen who are either an enlisted person or a warrant officer (including commissioned warrant officers) who are in a combat zone for any part of a month have pay for that entire month excluded from gross income tax. Commissioned officer’s pay is excluded from income tax up to a maximum of the highest enlisted pay plus $150 hostile-fire or imminent-danger pay.
Military personnel who are wounded or injured while serving in a combat zone are also exempt from gross income tax while they are hospitalized for their wounds or injuries for up to two years, starting from the date they left a combat zone. Pay for service in areas outside of designated combat zones that is classified as hostile-fire/imminent-danger pay is also subject to the exemption.
While serving in a combat zone, all compliance actions by the IRS may be suspended. These include enforced collections such as levies, liens, and audits. Actions are suspended for 180 days from the last day of service in a combat zone. Service members who qualify for relief from actions may notify the IRS through a dedicated email address, firstname.lastname@example.org.
Special IRA Rules
Under normal circumstances, Roth IRA contributions are made with post-tax income and the proceeds of the IRA are withdrawn on a tax-free basis. The IRS allows service members to contribute tax-free combat pay to either a Roth IRA or a thrift savings plan. The advantage to the service member is that the funds that enter and leave the Roth IRA are all tax free. Funds that flow into and out of a thrift savings plan do so on a tax-free basis as well. However, earnings on thrift savings plans are taxable when they are withdrawn.
Special EITC Rules
The earned income tax credit (EITC) is a fully refundable credit for low- and moderate-income working individuals and couples, especially households with children. The amount of the credit is based on a combination of factors, including filing status, number of dependents, and earned income.
Military personnel do not have to include nontaxable pay received as a member of the armed services. This special rule enables more service members to qualify for the credit or entitles them to a larger credit.
Nontaxable military pay includes:
- Combat pay
- Basic allowance for housing
- Basic allowance for subsistence
It is important for service members with nontaxable combat pay to carefully consider whether or not to include their combat pay on their tax return. The decision to include combat pay comes down to whether it decreases the amount of the EITC the member is eligible for.
Capital-gains rules for the sale of a home can be a problem for some service members who, because of redeployment, have not lived in their home for at least two of the last five years. The result is that they’re subject to capital gains.
The Military Family Relief Act of 2003 exempts service members who must sell their homes due to their service commitments, such as reassignment. The act also exempts service members who receive housing assistance from the military as compensation for a drop in the value of their home due to base closings or restructuring.
National Guard and Reserves
Members of the National Guard and reserves are provided with a few tax breaks in return for their service, including deducting the cost of travel. Guardsmen and reservists who are called to duty can deduct unreimbursed travel expenses from their gross income. Reservists may also be allowed the cost of buying and maintaining uniforms. The rule applies to uniforms that cannot be worn when off duty. Service members can only deduct unreimbursed costs.
The IRS will waive early withdrawal penalties, usually 10%, for funds withdrawn from retirement accounts such as 401(k)’s and IRAs, if the withdrawal is the result of a hardship due to reserve duty. While the penalty may be waived, the funds are still subject to income taxes.
The rules for college students who are participating in the Reserved Officer Training Course (ROTC) and receive financial assistance are a little complicated.
Some payments are nontaxable all the time. These include tuition assistance and books. Others, such as monthly stipends, depend on the ROTC program the student is enrolled in. In cases where weekend and summer training programs are required, the stipend may be considered taxable income. It is best to check with the program administrator to determine how your stipend is treated for tax purposes.
Veterans’ benefits are not considered taxable for federal tax purposes and include:
- Education and training allowances
- Disability compensation
- Disability pensions paid to veterans or their families
- Grants for making a home handicapped-accessible
- Grants for motor vehicles for certain disabled veterans
- Veterans’ insurance proceeds
- Benefits paid under the dependent-care assistance program
- Payments made under the compensated work therapy program
- Interest on insurance dividends left on deposit with the Office of Veterans Affairs
Tuition assistance provided under either the GI Bill or the Montgomery GI Bill is considered nontaxable for federal purposes and does not have to be included on a federal tax return. The same rule applies to active-duty members who receive tuition assistance from the tuition assistance program of a military branch.
Different states have different rules regarding taxes for service members. Some states follow federal rules for things like combat pay and others do not. Different states may tax military retirement benefits differently as well. It is important that both active-duty and veteran service members check with their state for rules and regulations rather than assuming uniformity.