BOARD OF EQUALIZATION STATE OF CALIFORNIA ) ) ) ) ) ) ) )

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1 0 In the Matter of the Appeal of: BAYANI B. VILLENA AND THELMA F. VILLENA Representing the Parties: BOARD OF EQUALIZATION STATE OF CALIFORNIA SUMMARY DECISION Case No. 0 Adopted: May, For Appellants: Tax Appeals Assistance Program For Franchise Tax Board: Counsel for the Board of Equalization: Judy F. Hirano, Tax Counsel III John O. Johnson, Tax Counsel This appeal is made pursuant to section of the Revenue and Taxation Code (R&TC from the actions of the Franchise Tax Board (FTB or respondent in denying appellants claims for a refund for the following years in the following amounts: Years 0 Amounts $0 0 $ 0 $ 0 $ The issue presented in this appeal is whether appellants have shown error in respondent s denial of their claims for refund predicated on the determination that they are not entitled to exclude This decision was originally distributed as a consolidated appeal with one other appellant. That other appellant subsequently withdrew his appeal prior to the Board Hearing. This decision has been revised to reflect that withdrawal. The Tax Appeals Assistance Program (TAAP represented appellants subsequent to their appeal letter. Reply and supplemental briefs were filed by William H. Davis and Brett Ryan Nelson of TAAP, respectively. - - Rev. --

2 0 certain military retirement income from their taxable income. FINDINGS AND DISCUSSION Background Appellant retired from the Navy on March,. Appellant s Form DD-, Certificate of Release or Discharge from Active Duty (military discharge form, shows that appellant was honorably discharged for Retirement years of service. Appellant applied for nontaxable service-connected disability compensation with the United States Department of Veterans Affairs (VA, and, as of December of 0, was receiving VA disability benefits based on a 0 percent VA disability rating. Appellant received monthly benefit payments from the VA during 0 in the amount of $,. These monthly payments were increased each year by a cost of living adjustment calculated each December, resulting in monthly payment amounts of $, for 0; $,0 for 0; and $, for 0. These payments are VA disability compensation that is excluded from gross income and exempt from federal and state income tax, and are not reported on the Form 0-R received from other agencies, such as the United States Department of Defense (DOD. (See U.S.C. 0(a(. In addition to his VA disability compensation, appellant also received retirement income from the DOD which was reported as taxable amounts on his annual Forms 0-R. These amounts were reported as being $,. for 0; $,0. for 0; $,0. for 0; and $,0. for 0. These amounts are comprised of three types of income, all reported as taxable income: gross pay, VA waiver, and concurrent retirement and disability pay (CRDP. It appears appellant received CRDP because his VA disability rating is fifty percent or higher. (See 0 U.S.C. ; cf. U.S.C. 0, 0. The amount of appellant s CRDP payments increased each year, while the amount of /// Appellants filed a joint appeal. Since the facts surrounding the income at issue involve only Mr. Villena s income, this background section will use the singular appellant to refer to Mr. Villena, as applicable. Military separation codes can be found at: < These amounts are listed on annual reports provided by the Defense Financing and Accounting Service for years 0, 0, and 0, and submitted with respondent s opening brief. Respondent indicates that it does not have a copy of appellant s annual retired pay account for Rev. --

3 0 VA Waiver payments was reduced, in accordance with the CRDP program that began in 0. 0 U.S.C. (c. Appellant and his wife filed a joint return for 0 reporting $0,.00 in federal adjusted gross income (AGI, including $,.00 in wages and $,. in his military retirement pay from the DOD. On their 0 return, they reported $0, in federal AGI, with $, in pension income including $,0 in his military retirement pay from the DOD. On their 0 return, they reported $, in federal AGI, with $, in pension income including $,0 in his military retirement pay from the DOD. Appellant s 0 return reported a federal AGI of $,.00 including $,.00 in pension income, of which $,0. represents appellant s military retirement pay. (See Appellant filed amended California returns for 0, 0, 0, and 0 on or before April,, requesting refunds based on a partial exemption of military retirement pay from taxable income based on the decision in Strickland. (Strickland v. Commissioner (th Cir. 0 F.d. Appellant s 0 amended return excluded $, of his $, military retirement income from the DOD, and requested a $0 refund. Appellant s 0 amended return excluded $, of his $,0 military retirement income from the DOD, and requested a $ refund. Appellant s 0 amended return excluded $, of his $,0 military retirement income from the DOD, and requested a $ refund. Appellant s 0 amended return excluded $,.00 of his $,0. military retirement income from the DOD, and requested a $.00 refund. The claims for refund were based on excluding approximately 0 percent of his military retirement income from his taxable income. Respondent denied the claims for refund, and appellant filed this timely appeal. Contentions Appellants Contentions Appellants assert on appeal that they recalculated the taxable amount of their pension income and are entitled to a refund in each year at issue. Appellants contend that they meet at least one The CRDP program is discussed in further detail in the Discussion section below. Respondent indicates that the VA waiver amount should be completely phased out by, meaning appellant would be receiving all of his retirement pay from the DOD without waiver, and also receive all of his nontaxable VA disability compensation as well. - - Rev. --

4 0 of the Internal Revenue Code (IRC section 0(b( requirements to be entitled to exclude part of appellant-husband s DOD military retirement pay under IRC section 0(a(. Appellants assert that they are therefore entitled to exclude from taxable income a percentage of appellant-husband s military retirement pay using his VA disability rating as a multiplier, and their claims for refund are based on excluding approximately 0 percent of his military retirement pay from their taxable income. Respondent s Contentions Respondent asserts that appellants contention that they are entitled to exclude gross income under IRC section 0(a( lacks merit. Respondent contends that, to be entitled to an exclusion from gross income of military retirement pay under IRC section 0(a(, an individual must have retired from the military due to disability, not years of service, and have a disability rating from the applicable military branch (e.g., Navy, not the VA. Respondent asserts that appellanthusband does not meet this fundamental requirement. Furthermore, respondent discusses IRC section 0(b(, which limits the IRC section 0(a( exclusion to an individual who meets one of four requirements. Respondent contends that appellants have neither shown that appellant-husband meets any of the requirements, nor even asserted which requirement he does meet. Respondent asserts that appellants have not provided any legal authority to support their contention that they should apply appellant-husband s VA disability rating as a multiplier to exclude part of his taxable military retirement income from the DOD. Respondent notes that the VA determined that Mr. Villena was eligible for nontaxable service-connected disability benefits for a disability resulting from personal injury suffered or disease contracted in line of duty or aggravation thereof. (Citing U.S.C. 0 [wartime], [peacetime]. Respondent asserts that the VA assigned him a 0 percent disability rating as of December of 0, and used this disability rating to determine his nontaxable VA disability compensation. (Citing Holt v. Commissioner ( T.C.M. (CCH. Respondent asserts, however, that his military retirement income, which was issued by the DOD on behalf of the Navy, a separate agency from the VA, is taxable, as reported on appellant s Form 0-R. Respondent contends that since appellant-husband did not receive a disability rating and disability retirement from the Navy, no part of his military pay from the DOD for the years at issue is /// - - Rev. --

5 0 excludable under IRC section 0(a(. Discussion Burden of Proof - Generally A taxpayer who claims a deduction or exclusion has the burden of proving by competent evidence that he or she is entitled to such. (See New Colonial Ice Co. v. Helvering ( U.S. ; Appeal of Michael E. Myers, 0-SBE-00, May, 0. Furthermore, taxpayers have the burden of establishing entitlement to exclude income as disability income. (Appeal of Arthur L. and Bertha Huber, -SBE-, Sep., ; Holt v. Commissioner, supra. Unsupported assertions cannot satisfy a taxpayer s burden of proof. (Appeal of Aaron and Eloise Magidow, -SBE-, Nov.,. Appellants filed amended returns as claims for refund based on the exclusion of military retirement pay from their taxable income. Respondent determined that appellants are not entitled to exclude any of their military retirement pay from their taxable income. Appellants have the burden of showing an entitlement to the claimed exclusions. Military Retirement Income R&TC section 0 expressly incorporates the IRC section (a( treatment of pension distributions as gross income. Furthermore, military retirement income paid by the DOD generally constitutes gross income unless excluded by law. (Wheeler v. Commissioner (0 T.C. 0,, fn., affd. (0th Cir. 0 F.d. Retirement pay for the length of military service, versus disability, is not exempt from taxation. (Holt v. Commissioner, supra. IRC section 0(a( provides that gross income does not include amounts received as a pension, annuity, or similar allowance for personal injuries or sickness resulting from active service in the armed forces... IRC section 0(b limits the application of section 0(a( to only individuals who meet one of four listed requirements. Accordingly, IRC section 0(a( applies to individuals who: ( were receiving such payments as of September, ; ( were in the armed forces on that date; ( are receiving Respondent asserts that appellants claimed additional itemized deductions for 0, 0, and 0, purportedly due to a decreased AGI. Respondent contends that, since appellants are not entitled to the exclusion of his military retirement income, they have not shown they are entitled to a reduced AGI, and therefore are not entitled to an increase in itemized deductions. - - Rev. --

6 0 such payments due to a combat-related injury; or ( would be entitled to receive disability compensation from the VA upon application. (Int.Rev. Code, 0(b(. Appellants assert that appellant-husband meets one of the four IRC section 0(b requirements, but does not state which requirement. Regardless, assuming he meets one of the threshold requirements contained in IRC section 0(b, appellant must still show that the income he attempts to exclude from his taxable income meets the definition provided for in IRC section 0(a(. Appellant-husband s military discharge form states that he was discharged for retirement after to 0 years of service, and not for any personal injury, sickness, or other disability resulting from active service. No evidence in the record suggests that his discharge has been recharacterized to anything other than retirement for years of service. Appellants have not shown an entitlement to income exclusion for military pension income under IRC section 0(a(. To show an entitlement to such income exclusions, appellants would need to have a military discharge form indicating that the discharge was based on a disability discharge. Retired servicemembers can apply for a correction of military records, if they believe they are entitled to such corrections. (0 U.S.C.. VA Disability Payments Military retirees may file a claim for nontaxable service-connected disability benefits with the VA. (See U.S.C. 0(a, 0(a. These benefits may be provided when a servicemember has a disability resulting from personal injury suffered or disease contracted in line of duty, or aggravation thereof. ( U.S.C. 0 [wartime], [peacetime]. Any disability benefits received from the VA are separate from military retirement income from the DOD, and are based on different criteria and standards. (Appeal of Arthur L. and Bertha Huber, supra; Burkins v. United States (0th Cir. F.d,. A rating given by the VA is not binding on the Navy, which operates under separate statutory authority, and, furthermore, the receipt of VA disability pay does not of itself entitle taxpayers to disability retirement pay from the DOD. (Williams v. United States ( Ct. Cl., ; see also Appeal of Arthur L. and Bertha Huber, supra. Payments under service pensions (i.e., military retirement pay should be The statutory references to Secretary and Department in these sections refer to the VA and its Secretary. ( U.S.C Rev. --

7 0 included in income regardless of the existence of a VA disability determination. (Holt v. Commissioner, supra. Appellants assert on appeal that appellant-husband s VA disability rating allows for the exclusion of part of his taxable military retirement income from their taxable income. Appellants amended California returns appear to apply appellant-husband s 0 percent VA disability rating directly to his taxable DOD retirement income to calculate the alleged excludable amount. However, as stated above, the VA disability rating is determined by the VA, a separate and distinct agency from the Navy and DOD, using separate criteria and standards, and the VA s determinations are not binding on the Navy and do not affect the taxable status of otherwise taxable military retirement income issued by the DOD. Appellants have not provided any legal support justifying their position. Accordingly, appellants cannot apply the VA disability rating to the taxable military retirement income. Concurrent Retirement and Disability Pay (CRDP Generally, taxpayers are not allowed to receive both military retirement payments and VA disability payments unless they meet one of two exceptions. ( U.S.C. 0. The first exception applies to retired servicemembers who waive a portion of their military retirement income equal to the amount of VA disability payments, as illustrated in the Strickland v. Commissioner discussion below. ( U.S.C. 0. This first exception applies to appellant-husband, who had a VA disability rating of 0 percent during the years at issue, and he appropriately utilized this exception to allow him to claim his VA disability payments as nontaxable income and still receive the remainder of his military retirement pay beyond those amounts. However, as discussed below, appellant-husband had no retroactive VA disability rating adjustment, and, therefore, he is not entitled to any additional exclusion of taxable income under Strickland, supra. The second exception is for retired servicemembers with a VA disability rating of 0 percent or higher. (See 0 U.S.C. This exception applies to Mr. Villena, who had a VA disability rate of 0 percent through all of the years at issue. This exception was created in 0 and /// These amounts are listed on appellant-husband s annual reports provided by the Defense Financing and Accounting Service as VA Waiver amounts. - - Rev. --

8 0 included a phase-in period extending through the end of. 0 (0 U.S.C. (c. For individuals with a VA disability rate of 0 percent, they were entitled to their standard military retirement pay, less the offset for VA disability payments (as discussed in the first exception in the prior paragraph of this decision, plus $0. The additional $0 is referred to as the CRDP, as it is the device allowing for the concurrent military retirement pay and the VA disability pay under section of title 0 of the United States Code. The law provides that the amount of CRDP increases based on a specific percentage set for each year, resulting in a gradually reduced offset amount (listed as a VA Waiver on some forms, and ultimately resulting in all qualifying retired servicemembers receiving full military retirement pay and VA disability pay by. For example, it appears appellanthusband was receiving monthly VA disability payments of $, during 0. Normally, to receive that full amount as tax exempt income, he would be required to have a VA Waiver reducing his military retirement pay by the amount of $,. However, by utilizing CRDP during this phase-in period, appellant-husband s monthly waiver in 0 was only $.. Generally, military retirement pay issued by the DOD is completely separate and unique from VA disability pay. The above discussion shows the limited connection between the two amounts by providing that individuals are not allowed to receive both except by utilizing one of the two exceptions listed above. These exceptions aid qualifying individuals in receiving nontaxable VA disability income in addition to at least a portion of their military retirement income, but no provision allows for the application of the VA disability rating to the DOD taxable military retirement income. Strickland v. Commissioner The th Circuit court in Strickland, supra, discussed the effect of a retroactive disability determination made by the VA on the taxpayer s ability to exclude from his taxable income certain military retirement income received during the retroactive period. Strickland retired from the Army in and began to receive taxable military retirement pay shortly thereafter. Strickland then applied 0 There is no phase-in period beyond 0 for individuals with a VA disability rating of 00 percent. Appellant-husband s rating is 0 percent, however, and therefore the phase-in period applies to him. The law provides that, regardless of the computations performed under the CRDP statute, servicemembers will not receive retirement pay in excess of the amount of retirement pay otherwise applicable to that qualified retired servicemember, and, therefore, some participants may be receiving full retirement and disability pay prior to. (0 U.S.C Rev. --

9 0 for and received a VA disability rating of 0 percent, and filed the VA Form expressly waiving that portion of his retirement pay equal to the VA disability payment amount (i.e., $ to receive the nontaxable VA disability payment in lieu of the taxable retirement pay of the same amount. (See U.S.C. 0. Strickland s VA disability rate was later increased to 00 percent, for payments of $0 per month, with about ten months of retroactive effect. Strickland filed his returns claiming income tax exclusion for the full $0 amount, including for the ten month period of retroactive effect, and the Internal Revenue Service (IRS denied the claimed exclusion for this ten-month period because the actual payments during that period came in the form of taxable military retirement income and not disability pay from the VA. However, the court found that the VA treated the increase in disability rating as retroactive without requiring Strickland to file a second VA Form, and therefore allowed the retroactive income tax exclusion claimed on Strickland tax returns, regardless of the source of actual payment. The decision in Strickland, supra, allows for the retroactive waiver of military retirement income to receive the benefits of income tax exclusion when the VA has awarded a retroactive increase in its disability rating for a taxpayer. (See also Rev. Rul. -. Appellant-husband did not have any retroactive VA disability rating increases during the years at issue in this appeal, and therefore he is not entitled to any exclusion of tax under Strickland, supra. Formal Opinion Respondent requests that this Board issue a Formal Opinion in this consolidated appeal. (Citing Cal. Code Regs., tit.,. Respondent argues that a Formal Opinion would set forth the current law governing this issue and provide guidance to taxpayers and tax practitioners. Respondent states that there are currently appeals with this issue pending before this Board at the time of its reply brief, that it has approximately to 0 protests pending at the time its brief was submitted, and that additional protests and subsequent appeals to this Board are likely. Regulation, subdivision (c, provides that, when considering whether a Formal Opinion is appropriate, consideration is given to whether a Formal Opinion would: ( establish a new Strickland applied for an increase in his disability rating in March of, and the VA reached its determination in January of that he was entitled to the increase effective back to the date of his application for the increase. - - Rev. --

10 0 rule of law, apply an existing rule to a significantly different set of facts, or modify an existing rule; ( resolve or create an apparent conflict in the law; ( involve a legal issue of continuing public interest; or ( make a significant contribution to the law by reviewing either the development of a common law rule or the legislative or judicial history of a provision on a constitution, statute, or other written law. At the time respondent initially suggested a Formal Opinion, it appeared that there might be a large and increasing number of appellants raising similar issues. However, that does not appear to be the case. Since the filing of respondent s reply brief, we have received only a handful of appeals raising similar issues. Moreover, having reviewed the briefing and issues on appeal, it appears that a Formal Opinion would not apply the law to significantly different facts or modify or establish a new rule. The existing statutes and case law are clear, and a Formal Opinion would not resolve any conflict in law or make a significant contribution to the law. This decision contains facts reasonably similar to the Appeal of Arthur L. and Bertha Huber, supra, and includes similar discussions as to the impact of a VA disability rating to military retirement income payments, the characterization of military retirement, and the duplication of payments from military retirement and the VA. While there are other appeals pending with apparently similar issues, each has its own facts, and it does not appear at this time that those matters require the resolution of an unresolved legal issue of continuing public interest Rev. -- While we may consider a Formal Opinion in a subsequent appeal if it becomes apparent that the issuance of a Formal Opinion is warranted, it does not appear that a Formal Opinion is necessary or appropriate at this time. CONCLUSION sustained. Villena_rev_jj Based on the foregoing, respondent s action in denying appellants claims for refund is In addition, some appellants who had appealed to the Board have subsequently withdrawn their appeal. This appeal was originally part of a consolidated group of six appeals, all of which were withdrawn other than this one. Our Appeals Division staff will review such appeals to determine if the consolidation of appeals would assist in efficiently and fairly resolving the appeals. If consolidation is requested, any party to such appeals would have the opportunity to object to consolidation if they wished to do so. (See Cal. Code Regs., tit.,..