The Taxation of Military Benefits Provides an Example of How the Law Can Sometimes Go Awry

Few would argue that soldiers and military personnel, especially veterans, should be afforded certain privileges. In American society as of late these benefits have included free or reduced cost education, health benefits, and in some cases, retirement benefits. Yet, the courts, and ultimately Congress, have been less giving with regard to the tax treatment of retirement benefits for disabled soldiers. This body of law was again put on display in Reimels vs. US.

Reimels is a soldier who was exposed to Agent Orange while serving in Vietnam. In the late 90’s Reimels was unable to work due to the lung cancer he developed as a result of being exposed to Agent Orange. Reimels was awarded compensation from the Veteran’s Affairs Office and Social Security benefits. Reimels did not report either payment on his 1999 tax return, arguing that the payments were to be excluded from his gross income as amounts paid on account of his physical injury or sickness resulting from active military duty (section 104(a) for the tax jocks).

At issue was whether the Social Security payments were excludable. The US Tax Court and the Federal District Court held that the benefits were to be included in Reimels income because Social Security “was not designed to compensate for military injuries.” The logic is that Social Security benefits could be paid for other injuries, not just military injuries. In this case (as in Haar), the benefits were actually paid on account of military injuries. Thus, the standard is not what actually happened, but what could have happened. Think about that. The law in this line of cases is to be applied not to the actual facts of the cases, but rather, the law is to be applied to what the facts might have been, but were not.

Here is a quote from the Haar opinion: “Because disability payments under the Civil Service Retirement Act are not paid for personal injuries or sickness incurred in military service, we conclude that section 104(a)(4) did not entitle petitioner to exclude the disability payments he received in the years in issue.” Yet the benefits in that case were paid for personal injuries incurred in military service! The same goes for the Reimels case.

It is interesting to note what has happened in this line of cases. When the Tax Court initially heard Haar, the court noted that it was only following Haar because Haar was on the books. The Tax Court implied that it would have ruled differently if the current tax court judges had initially ruled in the Haar case; however, the current tax court juddges did not hear Haar so they were bound by that prior decision. It should be noted that Haar is merely a US Tax Court case and is not binding on the Federal District Court. When I looked at the Tax Courts opinion in Reimels a couple of months ago, my guess was that the District Court would overturn Haar. However, the District Court did not and now we have a District Court opinion that adds to the Haar legacy.

It will be interesting to see if Reimels appeals this case to the US Supreme Court (assuming that he appeals and is not successful in the Fifth Circuit). If Reimels does not appeal this case, it will be very difficult for another court to overturn Haar in the future. In that case, as the Tax Court stated, it is likely that only Congress would be able to overturn Haar and this body of law may very well remain on the books for some time. My first guess about this case was incorrect; however, assuming that the Supreme Court does not overturn the Reimels case, for what it is worth, my second guess is that this line of cases will be overturned when more of the soldiers who are now serving in active duty begin to receive benefits for injuries related to their military service. Thus, we may be hearing about this issue again in about twenty years….