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Road to a big refund

Good intelligence is essential to success in combat — and tax season is no different.

Whether you’re filing your federal and state taxes online, through a tax preparation service or just doing it the old-fashioned way, you need more than a pencil and your W-2 form.

Many tax code provisions directly affect military members, and it pays — literally — to know them before you file.

The tax code is complex, so it’s always smart to consult a tax adviser before filing. Most bases offer free tax assistance services through the Volunteer Income Tax Assistance Program. Another great source for information is IRS Publication 3, the Armed Forces Tax Guide.

Here’s a brief look at tax code provisions — some new for the 2006 filing year, others on the books for some time — that directly affect military members.

New for 2006

1 - HERO Act. The Heroes Earned Retirement Opportunities Act allows a service member to use nontaxed combat-zone pay to qualify to make contributions to regular and Roth IRAs. It applies to tax years after 2003, and military personnel deployed to a combat zone in 2004 and/or 2005 who did not make an IRA contribution because they had little or no taxable income. These troops have until May 28, 2009, to contribute. (I wrote about this issue in depth last year — read more online at www.airforcetimes.com/money.)

2 - Uniformed Services Employment and Reemployment Rights Act. Guard and reserve members can make retroactive contributions to 401(k) plans covering the time they were deployed. You can do so if you return to your previous employer after your mobilization ends, and you can receive matching contributions if your old employer has matched the contributions of other plan participants. (For more information on this, see my column, available online at www.airforce times.com/money.)

Real estate

3 - Residency rules. If you own a home that you rent to others, be aware of a 2004 change to the rules dictating whether you can claim it as your principal residence.

If you sell your principal residence, you can exclude gains on the sale of $500,000 for a married couple or $250,000 for singles.

Before 2004, you could not claim a property as a principal residence unless you had lived in the home for two out of the last five years.

This rule was changed for military members in 2004. Now, you can suspend the counting period for 10 years, so if you lived in the home for two of the last 15 years you can still claim it as a personal residence.

Whether or not it is taken, depreciation must be recaptured as income on which you will pay taxes. If you transferred and lived in the house less than two years, you may still be able to exclude some or all of your gain. Check with your financial adviser for more details. (For more on rental property tax issues, check out my column at www.airforcetimes .com/money.)

General tax issues

4 - Foreign Earned Income Exclusion. Wages paid to military members and U.S. government employees are not eligible for this exclusion. See IRS Publication 54.

5 - Community property states. If you or your spouse is a resident of Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington or Wisconsin, consult a tax adviser. Your income may be subject to tax in that state if your military home of record is a different state and you and your spouse file separate state returns.

6 - Reserve travel pay. If reserve duty-related travel takes you more than 100 miles from your home, you can deduct an amount equal to the federal government per diem rates on line 24 of Form 1040. If the travel is less than 100 miles, you must deduct it as an employee business expense on Form 2106 and then on Schedule A. On Schedule A, it will be limited to the amount over 2 percent of your adjusted gross income.

7 - Moving expense deductions. Military personnel are allowed to deduct almost all moving expenses that are not otherwise reimbursed. There is no mileage test from the previous home or place of business.

8 - Noncitizen spouse. You can elect to treat a nonresident alien spouse as a resident alien for tax purposes, but all of your spouse’s worldwide income will be subject to U.S. tax. If you do not make this election, you cannot file a joint return.

9 - Combat zone deaths. Tax liability resulting from the income of a deceased service member is canceled for the year of death and for the preceding year if the service member served in a combat zone in that year.

If the service member dies later from injuries suffered in a combat zone or as a result of terrorist action, taxes are forgiven for the deceased from the year of the injury to and including the year of death.

10 - Automatic filing extensions. Troops serving overseas are allowed a filing extension until June 15. If serving in a combat zone, filing can be postponed to 180 days from the date of return from the combat zone or 180 days from the last date of continuous hospitalization for injuries received while serving in a combat zone. No interest or penalties accrue during this extension. Spousal income is included.

11 - Hardship deferrals of federal tax. Service members may be able to defer tax payment if they notify the IRS that their ability to pay the tax is materially affected by military service. If the IRS allows the deferral, you will be allowed to defer payment for up to 180 days after your military service ends. The request must be written and will be subject to IRS review, and it will notify you in writing of its decision. You can call the IRS at (800) 829-1040 to discuss the requirements for this deferral and how to apply. This likely applies more to mobilized Guard and reserve members than to active-duty personnel.

2007 Online Tax Guide

• Road to the big refund

• 7 credits all troops should know

• Taxpayers have until April 17 to file, pay

2007 Online State-By-State Guide

• Navigate your state (A - H)

• Navigate your state (I – M)

• Navigate your state (N – Z)

Past Savvy Investor Columns

• New law gives troops a second chance to add to IRA

• With 1031 exchange, you can beat big home-sale tax bills

• Getting the most out of your combat-pay exclusion

• Law protects civilian retirement plans for Guard, reserve members

More Information

• Essential intel: Links to military tax info