Aug 25 2010
When it comes to separation pay, it’s all about the meaning of the word “separation.” First I’ll explain the law and DOD policies on this issue. The MOAA position will follow.
Separation pay is given to members separated early from the Service. It is intended to help the separating member transition to civilian life. The point being, the member leaves the Service. That’s why a separated member who actually separates doesn’t re-pay the separation pay; the money was used as intended.
On the other hand, a member who returns to the Service in some other form (even if your separation required a return), and later becomes eligible for retirement, didn’t separate from the Service as intended. Under this situation, the separation pay, which wasn’t used to separate, is now considered an advance of retired pay—a key difference in the nature of the pay.
By law, you can’t be paid twice for the same service. In retirement, you expect credit for time served from the beginning. However, separation pay already paid you for time served up to separation. Now you need the time prior to separation to qualify for actual retirement. In this situation, the law and DOD policy treats separation pay as an “advance of retired pay.”
As an advance of retired pay, once a person qualifies for retired pay your “separation pay” amount is withheld from your retired pay until your advance is recouped. Once recouped, you receive retired pay in full. No different than getting a loan and having part of your pay garnished until the loan is repaid.
Regarding the taxation of the pay… You were advanced (separation pay) a gross (taxable income) amount of pay and you paid taxes. When you eventually receive retired pay, the gross separation amount is withheld from your pay because that is how much retired pay was advanced to you. Example: the DOD fronted you $30,000 and the DOD withholds $30,000 to recoup their advance.
If your separation pay is being recouped from your VA compensation, it is different. The VA only deals in tax-free compensation. Therefore if your separation pay is being recouped by the VA, only your after-tax (net separation pay) amount is recouped. Since your debt is with the Service and not the VA, the VA is technically collecting the net amount for the Service. Since you owe the Service the full gross amount, as it becomes possible, the Service will come after the difference between what the VA collected and the full gross amount.
You have no grounds for an amended tax return and tax refund. You were paid taxable income and paid taxes as everyone does with taxable income. The confusion stems from the term “recouped” as it applies to the separation pay. It’s the term used by DOD. However it is not technically recouped. Recouped implies DOD takes the money back; they don’t. Actually, you just aren’t paid. Not being paid isn’t a taxable event. MOAA is not paying you right now and there is no taxable event.
Your taxable retired pay is reduced which saves DOD money that’s being used to fill the debt left by your separation pay. Amended tax returns for refunds are for getting back tax moneys you paid but shouldn’t have paid in the past. In your case, you were paid at separation, paid taxes and lived on the money. Now you receive retired pay in a reduced amount and pay taxes on the reduced amount. There is no time where you paid taxes on income and the taxes shouldn’t have been paid.
Nuanced I know but here is one more way of looking at it. Let’s say I paid you taxable income and withheld the income taxes. Later I want the money back. I’m not going to garnish your wages. I want you to literally remove the money from your accounts and pay me back leaving you in the hole. Now you have a taxable event as you paid taxes on money that was later returned and you suffered the loss. This is an amended tax return situation.
The repayment program of DOD has capped the rate of repayment at 40%. If you can show financial hardship, you can appeal for a lower repayment rate.
Now for the MOAA view.
For many years MOAA has fought and continues to fight as one of our goals to stop the repayment of all involuntary separation pay. We do not believe involuntary separation pay is an advance of retired pay. We have not been able to get support from representatives on the Hill for this position.
For voluntary separation pay, we have worked and continue to work to have a portion of the pay designated transition pay that wouldn’t have to be paid back. Some of the pay is figured based on service years and you can’t be paid twice for the same service time so some voluntary separation pay would still have to be paid back. Once again, no representatives will support this action.
MOAA’s position is that it’s not right for involuntarily separated members to have to pay it back. We have to live with the law until we can convince enough legislators to support our positions.