As reported earlier, a change in the retirement pay schedule means that military retirees who have been retired for more than a year received 13 retirement payments in 2011. Previously, payments were made on the 1st of each month or the following business day. Effective with the October 2011 payment, payments were made on the 1st of each month or on the previous business day. This means that the payment previously scheduled to be paid on 3 October was paid on 30 September 2011, and the payment previously scheduled to be paid on 3 January 2012 was actually paid on 30 December 2011.
Whether you like the change or not, it sounds pretty simple. However, confusion abounds because many banks and credit unions make a habit of releasing military retirement pay earlier than the actual payday. Therefore, customers with those banks and credit unions weren't expecting to receive those payments on the actual paydays, but rather were expecting to receive those payments on the Friday before. When it applies to the January payments, those customers were always receiving their January payments in December, and they received the January 2011 payment in December 2010. If you are only looking at the dates that the payments were actually received, it seems that those customers were still only receiving 12 payments in 2011.
Yet all military retirees received a 1099R tax statement that shows that they received 13 retirement payments in 2011. How can this be?
When the Defense Finance and Accounting Service (DFAS) sends payment information to all the banks, it includes the amount of each payment and the effective date of that payment. Without specifying an effective date, accounting would be all crazy. For each military retirement payment paid prior to the change, the effective date accompanying each payment was either the 1st or the business day following the first. For the January 2011 payment, the effective date was 3 January 2011.
DFAS does not and can not control the practices and procedures of each individual bank or credit union. Many banks or credit unions offer early release of military direct deposit as a courtesy to their customers. However, the date that the deposits are released is not, for tax purposes, the day that the deposit was intended to be paid. The IRS requires that income be reported on the day that it was scheduled to be paid, regardless of how the banking institutions choose to handle the deposit. It would be physically impossible for DFAS or the IRS to know when each individual bank or credit union is choosing to release deposits to their customers.
I see how this can be confusing, and I hope that I've been able to un-confuse it just a little. DFAS stated pretty much the same thing in their December Retiree Newsletter and the article can be found here: http://www.dfas.mil/retiredmilitary/newsevents/newsletter/13paystaxes.html
For the great majority of military retirees, this will not create an additional tax burden. The 13th payment of 2011 had taxes withheld just like the other 12 payments, and that additional withholding has been reported to the IRS on your 1099R. Only a few people will find that this change makes a significant different in their overall tax situation.
Thanks to the commenter Dave, who pushed me to do some actual calculations. I spent the morning making up some hypothetical retirees and figuring out how this change would impact them. I discovered that each of my retirees would have an additional tax payment due after considering the additional income and the additional withholding. Amounts for my made-up people ranged from $115 to $335 in additional tax payment due or less in refund. So this is definitely creating a burden for some people.
Each of my phantom retirees was assumed to be currently withholding at the correct rates for their income. The amounts would go up quickly if you are not withholding too little already, but the opposite is also true. If you are currently withholding at too high a rate, you might even find that this change results in a smaller tax payment due, or a larger refund.
If you are interested in the details, you can click on the picture below to see a clear copy of my entire spreadsheet with notes and comments.
If you have more questions or comments, please feel free to add them below.