Special Tax Rules for Retired Military Members
While doing a presentation the other day, I received a question from one of the military members in the audience that made me think about the Strickland Decision and how it applies to military retirees who are 50% or more disabled. Your tax consequences could vary quite a bit depending on how your offset is made up. But we should start with a review
The Strickland Decision and IRR 78-161
The Strickland Decision is a result of a court case where a retired military member sued the IRS claiming the right to retroactively reduce his income by the amount of VA offset that should have been taken from his pay while his claim was being adjudicated. He won. The IRS agreed and implemented Internal Revenue Ruling (IRR) 78-161. The ruling implements the court's decision. You can read more about it here.
US Tax Code essentially states that you must reduce your retirement benefits by the amount of Veterans Administration (VA) Disability Compensation received. Technically, this is the case for all veterans. However, in 2004, the Congress changed the law to allow retired military members rated 50% or more disabled to receive both VA Disability Compensation and their full retirement pay. This is call Concurrent Receipt and was fully implemented in 2014. From a government accounting standpoint your military retirement pay is reduced by the VA Disability Compensation and all of it is replaced by Concurrent Disability and Retirement Pay (CRDP) or all or a portion of it is replaced by Combat Related Special Compensation (CRSC).
CRDP vs. CRSC
Now, remember, we're talking government accounting here so logic doesn't necessarily apply. Key points...
- Your retirement pay will be reduced by the amount of your VA benefit (even if you are 50% or more disabled)
- If you are 50% or more disabled then the reduction will be replaced (in all or part) by CRDP or CRSC
- CRDP will replace all of the reduction
- CRSC will replace the portion of the reduction attributable to disability caused by combat or combat related activities.
- CRSC is tax-free while CRDP is taxable. If CRSC is selected, you are 50% or more disabled, and it applies to the time while the claim was being adjudicated, IRR 78-161 could apply.
- CRDP will be put in place automatically while CRSC must be applied for with your Service
Financial Planning Opportunities for Retired Military Officers
First of all, if you are rated 50% or more disabled and your disabilities were caused by combat or combat related training, then you will want to check and see which puts the most money in your pocket...Tax-free CSRC for perhaps only a portion of your VA offset or taxable CRDP for the entire offset. If you go the CRSC route check to see if the Strickland Decision applies.
If you are rated less than 50% disabled, then you might want to see if you qualify for CRSC to regain a portion of your VA offset.
In either case, you might want to meet with a Financial Advisor that specializes in working with retired military officers.