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Planning on Working on Terminal Leave? Mind Your State Taxes

Taxes Transition

I was on active duty for 27 years and one month. For 27 years, I was a resident of Texas, even though I only lived there for one year. This was due to the Servicemembers Civil Relief Act (SCRA), as most of the readers of this blog know. Due to the fact that I was a resident of Texas, I didn’t have to pay state income tax. And to be quite frank, for those 27 years, I never really thought about the SCRA and what it actually says. Then I started this business.

Retired Military Officers Have a Potential State Tax Issue

In §571 of the SCRA, what is exempt from state income tax is clarified (emphasis added).

Compensation of a servicemember for military service shall not be deemed to be income for services performed or from sources within a tax jurisdiction of the United States if the servicemember is not a resident or domiciliary of the jurisdiction in which the servicemember is serving in compliance with military orders.

In other words, only your military compensation is sheltered from state income tax. Imagine this scenario. 

You’re a Colonel and carried over 60 days of leave. Your retirement ceremony is in June and you have around 75 days of leave to take you to your retirement date of 1 Sep. You decide to take a month off and start your new career in Virginia while still on your remaining 45 days of terminal leave. You’ve been a Texan for your entire career, so you’re confident you don’t need to pay state income taxes to Virginia since you’re still technically on active duty and a Texas resident. You’d be wrong. Going back to the statute only your military compensation is exempt from Virginia income tax. You will owe state income tax on the income from your new job (This would include any signing bonuses too). Technically, you would file a non-resident tax return from time you start the new job until 1 Sep. For the time from 1 Sep until 31 Dec, you would file a part-year resident tax return.

I’m guessing that would be a surprise to more than one transitioning military officer.

Military Spouses Actually Get a Tax Advantage

While the SCRA limits the tax exemption to compensation for military service, it doesn’t make the same type of distinction for military spouses. The SCRA states that, “Income for services performed” by the military spouse is not income for state tax purposes.

So, unlike the military member, the spouse of a servicemember will continue to be able to avoid state income tax up to the retirement date of the retired military officer. Not too often that the spouse has the better deal than the military member!

This Stuff is Not Simple

If you’re a retiring military officer, you’re no dummy. That doesn’t mean you have all the financial information needed to navigate your transition from the military to the civilian sector. If you’d like some help, we’re here. 


If you enjoyed this article, you might like the following blog posts

New Tax Law, New Rules for Military Spouses


The Tax Bomb Waiting for Retiring Senior Military Officers


Military Retirement, Va Disability and Your Taxes




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