In honor of Memorial Day, The Motley Fool salutes current and former military personnel and their families with a series of articles addressing common financial issues they face. Check out all of the Fool's Memorial Day articles.
The men and women of the armed forces give so much to our country and its citizens. It's only right for the government to make their lives a little easier on the income-tax front.
The recently passed HERO Act (Heroes Earned Retirement Opportunities) allows members of the military serving in Iraq, Afghanistan, and other combat zones to fund an IRA -- Roth or traditional -- even if they received tax-free combat pay. In addition, the HERO Act allows military personnel who received tax-free combat pay in either 2004 or 2005 to go back and make IRA contributions for those years. Eligible military members will have extra time, until May 28, 2009, to make these special back-year contributions.
For those under 50, the IRA contribution limit was $3,000 for 2004 and $4,000 for 2005. For those 50 and over, the limit was $3,500 for 2004 and $4,500 for 2005. If a return has already been filed for a particular year, contributions should be reported on an amended return, Form 1040X. Depending upon the circumstances, military personnel who choose to put money into a traditional IRA for 2004 or 2005 may qualify for additional tax refunds.
In addition, let's not overlook the sweeping legislation that President Bush signed into law on Veterans Day 2003: the Military Family Tax Relief Act of 2003. This new law provided a number of long-overdue relief provisions for our fighting men and women. If you have friends and family in the military, make sure to let them know about the following tax breaks.
Home sale tax exclusion
Since 1997, Americans have been able to exclude the gain from the sale of a principal residence, as long as certain qualifications were met. One of those qualifications required the homeowner to live in the residence for at least two of the five years immediately preceding its sale. While provisions do allow for a partial exclusion if the move is required for business or work, that relief was not extended to military or foreign service personnel. This law now corrects that oversight.
Military and foreign service personnel may now choose to suspend that five-year holding period while they or their spouse is on a qualified official extended (i.e., more than 90 days) duty assignment. The holding period can be suspended for as long as 10 years.
Combat zone filing rules
Generally, military personnel stationed in a combat zone receive extra time for filing and paying of federal income taxes. The new law also provides this extension to military personnel involved in contingency operations (e.g., Operation Iraqi Freedom or Operation Enduring Freedom) as designated by the Secretary of Defense.
Taxability of death benefits
The death gratuity benefit paid to the survivors of a service member killed in the line of service after Sept. 10, 2001 increased from $6,000 to $12,000. Under the new law, the entire amount of the benefit is not subject to tax (under the old law, only $3,000 of the $6,000 total benefit was tax-free). Again, note that this new provision is retroactive to 2001.
Military academy penalty waivers
For attendees of the U.S. Military, Naval, Air Force, Coast Guard, or Merchant Marine Academies, the new law waives the normal 10% penalty for payments received from a Qualified Tuition Plan or Coverdell Education Account that are not used for qualified education expenses. The penalty waiver is effective for 2003 and subsequent years.
Reservists' travel expenses
Members of the National Guard and other similar reserve units must often travel as part of their duties. These travel expenses can be significant, and they're often not completely reimbursed by the military. While these un-reimbursed expenses could be claimed as a miscellaneous itemized deduction, they would only provide tax relief if the taxpayer itemized deductions. Even then, those expenses would have to pass the 2% of AGI test.
Effective Jan. 1, 2003, there's now an "above the line" deduction for overnight travel costs incurred for travel of more than 100 miles from the taxpayer's home, including meals, transportation, and lodging up to the allowable per diem amount. Taxpayers will no longer be forced to itemize deductions to receive a tax benefit from these military reserve expenses.
Exclusion for amounts received under HAP
The Department of Defense makes payments under the Homeowner's Assistance Program (HAP) to compensate qualifying uniformed services members and federal employees for any loss in value of a qualifying residence at or near a military base or installation that is caused when the base or installation is partially or totally closed. Under the new law, HAP payments received after Nov. 11, 2003 are not considered taxable income, and will be treated as a non-taxable fringe benefit. There are a few strings associated with this provision, so make sure you're totally qualified to exclude this income if you're receiving HAP payments.
There are also a few other provisions regarding terrorist organizations and astronaut relief, but since very few of you have either astronauts or terrorists in your circle of friends and family, we won't go into those provisions for the time being. But you can clearly see the potential tax savings for the men and women who risk their lives to protect our freedom. Make sure you spread the word about the tax breaks applicable to those serving in the military.
When he's not dealing with tax issues, Fool contributor Roy Lewis is a motivational speaker who lives in a trailer down by the river. He understands that The Motley Fool is all about investors writing for investors. You can take a look at the stocks he owns, as long as you promise not to ask him which stock to buy. Roy will be glad to help you compute your gain or loss when you finally sell a stock, though.