Once they are awarded disability benefits, clients often ask us if they will have to pay the IRS for income taxes on the benefits received. The short answer to this is “No” but with certain exceptions, In general, VA benefits are exempt from taxation (on federal and state levels), claims of creditors, attachment, garnishment, and other forms of legal process.
Some examples of exceptions to when your disability funds can be reduced would be:
- Debt Owed to VA – If you owe the VA for prior debts such as for education benefits received but not completed (ex: if you dropped a class or didn’t complete a semester) and the school that was paid the benefits does not fully reimburse the VA, then you might owe the VA for that amount.
Another example could be if you were receiving Pension benefits, and it was determined that you were not entitled to those benefits, then the VA can require that those prior payments be reimbursed to it. An amount is determined to be deducted from a veteran’s monthly disability pay in that instance until the entire amount is repaid.
(Keep in mind that if you do owe the VA for prior debts, then there are ways that you can dispute that amount and/or apply for a waiver. )
- Apportionment Claim – If a former spouse or estranged spouse makes a claim for apportionment of a veteran’s disability benefits, and it is determined the spouse is entitled to a portion, then an amount can be withheld from a veteran’s disability pay. However, be aware that a veteran can file a statement (a Form 4138), outlining all the reasons that he /she believes that the apportionment would create an undue hardship on the veteran, and the apportionment may or may not be granted by the VA. There are other instances of when apportionment can be made such as when a veteran is incarcerated.
- IRS Debt for Past Taxes – If you owe the IRS for unpaid federal taxes, then those can be withheld from your disability benefits.
- Child Support/Alimony – While a veteran’s account might not be directly garnished if child support (or alimony) payments are owed by a veteran, states are allowed to jail a veteran (for contempt of court for failing to abide by the court’s order to pay child support) until such payments are made. This effectively forces a veteran to turn over the funds from any VA disability benefits received in order to get released from jail.
- Concurrent Retirement & Disability Pay – Be aware that it becomes more complicated if a veteran is receiving Concurrent Retirement and Disability Payments (CRDP). Because a veteran’s retirement pay generally IS subject to income taxation and can be garnished for payment of court-ordered matters (such as child support or alimony), then in that instance, a veteran’s bank account that is under any garnishment orders has to be reviewed and the portion that is attributed as retirement pay is subject to being garnished. The amount attributed to disability pay cannot be garnished. The veteran may also owe taxes on the portion attributable to retirement pay.
Also to consider is that just because the VA disability payment is exempt from taxation, that does not mean that property purchased using disability payment income would be exempt from payment of property taxes, etc.