New Law Eases Tax Burden On Military Families
By Sylvia Cannon
Fall 2008
A new tax law introduces a number of tax benefits for military families and extends or makes permanent several existing benefits.
The HEART Act – the Heroes Earnings Assistance and Relief Tax Act of 2008 – helps reduce the financial burden on military families in several ways:
- Survivors of servicemembers who die on active duty are now allowed to place all or part of death gratuity payments into a Roth Individual Retirement Account or Coverdell Education Savings Account (CESA), regardless of the annual contribution limits for these accounts.
- New rules for civilian employer plans require the employer to treat servicemembers killed in action as if employment terminated due to death for purposes of calculating survivor benefits.
- Mobilized National Guard and Reserve members may withdraw money from their personal retirement plans without incurring an early withdrawal penalty. Funds may be replaced up to two years after the end of active duty. (The replacement of funds does not provide an immediate tax benefit but provides basis in the retirement account.)
- Several temporary provisions have been made permanent, notably the provision allowing servicemembers to treat non-taxable combat pay as earned income in order to receive the Earned Income Tax Credit.
- Military members who file a joint tax return are eligible to receive the $600-per-person economic stimulus rebate even if a spouse does not have a Social Security number.
- Guard and Reserve members who contribute to an employer-provided health flexible spending account can use unspent funds rather than lose the money, if they are called to active duty.
- Military families can count most military cash allowances beyond basic pay as earned income when determining Supplemental Security Income eligibility and benefit amounts.
- Small businesses employing Guard and Reserve members may receive a $4,000 tax credit to make up salary differences to employees who are mobilized for military duty.
Making The Best Of A Tragic Loss
When a servicemember dies, the surviving family often receives substantial benefits from the government: $400,000 from Servicemembers Group Life Insurance – which is automatic unless the servicemember opted for less coverage – plus a “death gratuity” of $100,000 when the death occurs during active duty.
The HEART Act offers survivors an easy way to place the money immediately in a Roth IRA or CESA. These accounts normally maintain annual contribution limits, but military beneficiaries now may bypass those limits by rolling some or all of their proceeds to either or both accounts.
Unlike other investments, a Roth IRA or CESA grows and compounds in a tax-deferred account and generally is not taxable upon withdrawal. So when the money is needed for retirement or education expenses, it probably has accumulated more than if it had been invested in a taxable account.
The new rollover rule provides an opportunity to reach retirement or college savings goals with one large contribution. Some families, however, should think twice before devoting their entire benefit payment to a Roth IRA or CESA because they can’t reconsider once the money is in.
Each account maintains specific rules describing when and how the money may be used. For example, withdrawing any Roth IRA earnings before age 59 1/2 could result in a 10 percent penalty on top of ordinary income taxes. And a CESA may be tapped only for qualified education expenses, such as tuition and books, for the account beneficiary.
These limitations are significant for survivors who may need the extra money for needs ranging from groceries to mortgage payments. If too much money is tied up in inaccessible accounts, they may be stuck in a difficult position.
Fortunately, the new law under the HEART Act offers some flexibility. Families who receive the death-related benefits have the choice to roll over a portion of their funds to a Roth IRA or CESA and reserve the rest for lifestyle or unforeseen expenses. Allocating the money to several different places might make the transition a little more complicated, but it could also help to ensure maximum protection for the family.
No amount of money can replace a loved one, of course, but the HEART Act – combined with prudent financial decisions – can make it easier to honor their memory by fulfilling some of the dreams you shared.
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Sylvia Cannon, a retired Air Force logistics officer and spouse of an active duty Army officer, has been an H&R Block office manager for six years. H&R Block’s 12,800 retail tax offices nationwide can assist servicemembers with any tax or financial concern. Call 1-800-HRBLOCK or visit www.hrblock.com to find the nearest H&R Block location. Military families can learn more about making wise financial choices and find information about H&R Block’s Military Spouse Scholarship Program at www.hrblock.com/military.