facebook twitter instagram linkedin google youtube vimeo tumblr yelp rss email podcast blog external search brokercheck brokercheck
%POST_TITLE% Thumbnail

Child-Only SBP Tax Trap

Military Pay and Benefits Estate Planning

In certain circumstances it may make sense to select child-only Survivor Benefit Program (SBP) coverage. One case where it may make sense is in the case of an active duty death. This is because Dependency and Indemnity Compensation (DIC) is paid to spouses and children of active duty servicemembers who die on active duty (assuming favorable Line of Duty determination). Spousal SBP benefits are reduced by each dollar received in DIC benefits. This is not the case for children receiving SBP and DIC. So, When DIC benefits are larger than SBP spousal benefits it can be advantageous for the spouse to forego SBP and elect child-only coverage. Specifically, this would occur in the case of a junior officer or many enlisted ranks. A retiring military member might chose child-only coverage to save money as well.

New Tax Law Affects SBP

The Tax Cuts and Jobs Act (TCJA) has significantly changed the treatment of child SBP benefits and that change, if unplanned for, could negatively impact military families where children receive child-only SBP.

Under the Tax Code, SBP benefits are considered unearned income and this type of income is taxed differently for children than their other income (such as wages from a part-time job). Under the old tax law, the income that exceeded approximately $2,000 was taxed at the parents’ tax rate. In the cases involving SBP benefits, somewhere around 25% or less would be the expected tax rate. Under the TCJA, a child’s unearned income exceeding $2,100 is taxed at trust tax rates. The maximum tax rate for trusts is 37% and it starts at income exceeding $12,750. So, the family unit of the deceased servicemember, could see the taxes on a good portion of their income increase by nearly 50% (37%-25%/25%). And if not planned for, a very large tax-bill due when the child's tax return is filed.

If spousal SBP benefits would be eliminated by DIC payments, child-only SBP may still be the best choice, but less of the SBP payments will be available than under the old tax law.

What Next?

If you’re still on active duty, this is something you should talk to your spouse about and make sure you remember it in case you have a loss in your unit.

There is a legislative fix working its way through Congress, but we all now how dysfunctional that legislative body is.

If nothing is done, in 2025 the TCJA expires and tax treatment of SBP payments will revert to the old rules and will be taxed at the parent’s tax rate.

If you found this article useful, you might like the following blog posts:

SBP and Long-Term Care Insurance


Military Tax Benefit: Rollover of SGLI Proceeds to a Roth IRA


To SBP or NOT SBP? That is the Question





Disclaimer
Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by C.L. Sheldon & Company, LLC ), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from C.L. Sheldon & Company, LLC . To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. C.L. Sheldon & Company, LLC is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the C.L. Sheldon & Company, LLC ’s current written disclosure statement discussing our advisory services and fees is available for review upon request. DISCLAIMER OF TAX ADVICE: Any discussion contained herein cannot be considered to be tax advice. Actual tax advice would require a detailed and careful analysis of the facts and applicable law, which we expect would be time consuming and costly. We have not made and have not been asked to make that type of analysis in connection with any advice given in this blog post. As a result, we are required to advise you that any Federal tax advice rendered in this blog is not intended or written to be used and cannot be used for the purpose of avoiding penalties that may be imposed by the IRS. In the event you would like us to perform the type of analysis that is necessary for us to provide an opinion, that does not require the above disclaimer, as always, please feel free to contact us.