Uncle Sam wants to make taxes for members of the military as painless as possible. For example, pay for active service is exempt from income tax for any month in which you serve in a combat zone -- up to the highest rate of enlisted pay ($7,100 per month in 2008).
Even though combat pay is tax-free, you can still count it as earned income for purposes of maximizing the Earned Income Tax Credit and the Child Credit, worth up to $1,000 for each dependent child under age 17.
And, you can count combat pay as the earned income that's required for the purpose of making contributions to traditional and Roth IRAs. Plus, if you were unable to make an IRA contribution in 2004 and 2005 (because combat pay was not considered earned income in those years), you have until May 29, 2009, to make up those contributions. You have one year from the date on which you make the catch-up contribution to amend your tax returns in order to receive a refund or credit against current taxes.
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Some military families with foreign-born spouses or children missed out on receiving tax rebate checks last spring because some family members didn’t have a valid Social Security number. Now they can claim their tax rebates of up to $1,200 for joint filers and $300 for each eligible child when they file their 2008 tax return as long as at least one spouse has a valid Social Security number.
Breaks for reservists. Members of the Reserve and the National Guard can deduct travel expenses for overnight service trips that take them more than 100 miles away from home. The deduction, which is available whether or not you itemize, is limited to the general federal per diem rate, which varies by locality.
Reservists may also take penalty-free withdrawals from their IRASs, 401(k)s and other retirement plans, although they still have to pay income taxes on the distributions.
Death exclusion. If a service member dies as a result of wounds, disease or injuries incurred in a combat zone, all of his or her income -- not just military pay -- in the year of death is exempt from income taxes. The exclusion also applies to prior years, back to the first year of service in a combat zone. This means family members can file amended returns to have prior years’ taxes refunded. The statute of limitations -- usually three years from the normal due date of a return -- still applies.
Individuals receiving military death benefits may disregard the Roth IRA contribution limits and use the full amount of the death benefits to fund a Roth IRA. The same treatment applies to contributions of military death benefits to Coverdell Educational Savings Accounts.
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