Is a Veteran’s Military Retirement Pay Taxable?
Yes, a veteran’s military retirement pay is subject to federal income tax. The amount of federal tax deducted from a veteran’s retirement pay each month is based on the number of exemptions indicated on the veteran’s W-4 after retirement.
As a veteran, whether your retirement pay is also subject to state income tax depends on your state’s laws. Some states exempt military retired pay from state income taxes. Contact your state’s veterans office for more information about state taxes and military retirement pay.
You can change the amount of tax withheld from your retirement pay each month by completing a new W-4 at any time.
Although military retirement pay is subject to federal income tax, it’s not subject to FICA (Social Security) deductions.
Medical retirement pay is tax free if you joined the military before September 24, 1975. It’s also tax free if the military makes a determination that your medical condition is combat related.
Does military retirement pay affect Social Security and other things?
The question asked the most by military retirees who have not yet reached the age of 65 is, “Will military retired pay affect my Social Security benefits?” The answer, thankfully, is no. Your military retirement pay isn’t reduced when you receive Social Security, nor are your Social Security benefits reduced because you receive military retirement pay.
If you’re receiving disability compensation from the Department of Veterans Affairs (VA), your military retirement pay is reduced by the amount of VA disability compensation you receive, unless you qualify for an offset because your disability rating is 50 percent or more, or you’re eligible for Combat-Related Special Compensation.
Unlike active-duty and National Guard/Reserve pay, military retirement pay can’t be garnished for commercial debts (credit cards, automobile loans, and the like). Military retirement pay can, however, be garnished for alimony, child support, IRS tax levies, and debts owed to the government.
Also, if you retire from the military and elect to get a federal government job, you may continue to receive your military retirement pay during your federal employment.
However, if or when you retire from federal civil service, you can waive your future military retired pay to order include your military service in the computation of your civil service annuity. Depending on which of the dozens of civil service retirement programs you fall under, this could be a good deal.
If you elect to combine your military retirement with your civil service retirement, you no longer qualify for the disability compensation offset or Combat-Related Special Compensation program.
Should you take a Redux and reduce military retirement pay?
In 2001, Congress made another significant change to the military retirement system. The program is called Career Status Bonus (and is commonly referred to as Redux). Under Redux, active-duty military members can elect to take a lump-sum bonus of $30,000 when they have 15 years of military service, in exchange for an agreement to accept a decreased retirement pay amount.
This is a good deal — for the government, not for the veteran. Congress’s goal in establishing this program was to save hundreds of millions of dollars in future retirement obligations. It works well, but at the veteran’s expense. In fact, it could be argued that no payday lender has ever ripped off a military member as the government has done with this program.
For a 20-year military career, High 3 provides retirement pay equal to 50 percent of your average basic pay over your three highest income years. Redux pays only 40 percent for a 20-year retiree.
The percentage gap narrows for each year of military service performed past 20 years, so that for 30 years of service, both plans pay 75 percent of the average of 36 months of basic pay. But most members don’t serve 30-year careers.
Redux also includes a cap on annual retirement pay cost of living allowances (COLA).
While other military retirees receive an annual COLA equal to the cost of inflation, Redux retirees have their COLA capped by a full percentage point below the inflation rate. Redux does provide a one-time catch-up in purchasing power at age 62, but then the capped COLAs continue until death.
Several military and government think tanks have dissected this program north and south. Their conclusions? It’s a bad deal. The average loss in retirement pay over a normal life span is about $300,000.
Consider a typical enlisted member who takes the $30,000 bonus at 15 years of service. The amount received, after taxes, is actually about $25,500. If you retired at 20 years in the pay grade of E-7 at age 38, the lifetime retirement loss would be $344,400, or 13 times the value of the bonus.
Look at it this way: If you finance a home for 30 years, you’d typically pay the mortgage lender about two and a half times the loan’s value. However, in accepting the Redux bonus, you would be agreeing to pay back 13 times the amount of money you “borrowed.”
Adjusting military retirement pay for the cost of living
A military member in the pay grade of E-7 who retired after 20 years of service in 1980 earned about $609.60 per month in retirement pay. How would you like to try to live on that today?
Fortunately for the retiree in the example, he doesn’t have to. Military retirees receive an annual cost of living adjustment, or COLA, on December 1 of each year.
The amount of the COLA is equal to the inflation rate for that year, based on the consumer price index (CPI). The purpose of the annual COLA is to help retirees maintain the same purchasing power from year to year.
If you accepted the Career Status Bonus (also known as Redux), your COLA will be capped at one full percentage point below the rate of inflation.