Sen. John Boozman of Arkansas is one of the sponsors.

Sen. John Boozman of Arkansas is one of the sponsors. Danny Johnston/AP

Bill Helping Combat-Wounded Vets Recoup Lost Severance Pay Advances

Defense has been improperly taxing the disability compensation of certain vets for more than two decades.

Lawmakers have advanced legislation that would reimburse veterans with combat-related injuries potentially thousands of dollars in lost severance pay.

The Senate Finance Committee approved the 2016 Taxpayer Protection Act on Wednesday, which included an amendment requiring the Defense Department to pay back all veterans affected by the accounting error, going back as far as 1991. Veterans who had to medically retire from the military because of combat-related injuries during the last two decades have lost out on thousands of dollars in severance pay because the Defense Department improperly taxed those payments.

"We're pleased that this bill is one step closer to becoming law,” said Tom Moore, attorney and manager of the Lawyers Serving Warriors project at the nonprofit National Veterans Legal Services Program. “This bill will right an inexcusable wrong for thousands of veterans who served their country and were discharged for combat-related disabilities.”

Sens. John Boozman, R-Ark., and Mark Warner, D-Va., recently introduced a stand-alone bill directing Defense to identify affected veterans, notify them, and ensure the government pays them back. It also extended the statute of limitations on amended tax returns for affected veterans so that “those who were wronged long ago can still receive their full and proper payments,” Warner said. Senators on the Finance Committee decided to incorporate the legislation into the Taxpayer Protection Act, which now heads to the Senate floor.

It’s unclear how many veterans have been affected, but NVLSP estimated it could be close to 14,000 vets who were wrongfully taxed for a total of $78 million in lost compensation.

Since 1991, federal law has stipulated that the government is not supposed to withhold taxes from the one-time lump sum disability severance pay given to veterans forced to leave the service because of combat-related injuries. But that’s what has happened, costing vets on average roughly $5,000 in lost pay, according to NVLSP estimates. The amount of lost compensation, though, could vary widely among individual vets, depending on the amount of the lump sum received, said Moore. NVLSP uncovered the decades-old, systemic problem during an unrelated review of some combat-injured vets’ financial documents, which revealed the discrepancy.

Defense has known about the problem for years, but has yet to come up with a comprehensive solution that prevents it from happening in the first place. Basically, it’s up to veterans to figure it out for themselves and recoup the money. They can either request a direct tax refund from the Defense Finance and Accounting Service, if it occurs during the same tax year as their separation, or file an amended tax return with the Internal Revenue Service if the disbursement is within the three-year statute of limitations for filing amended tax returns.

The accounting error related to taxes and disability severance payments might stem from the system’s shortcomings when identifying DSP categories. While combat-injured vets receiving DSP aren’t supposed to be taxed on that payment, the government does withhold taxes on disability severance payments for service members who are separated because of non-combat-related injuries.

“Going forward, the department is working on a process to allow tax withholding decisions to be made with respect to the second group of members based on information available prior to separation,” DoD spokesman Matthew Allen said earlier this month over email. “In addition, the department is working on improving the process to ensure that members separated for combat-related disabilities do not have taxes withheld from their separation pay. When implemented, these process changes should greatly reduce the risk of tax withholding errors.”

Allen said Defense doesn’t know how many veterans were improperly taxed but “does not believe the problem is as widespread as recent reports might suggest.”