How Does Combat Pay Affect Your Taxes?

Combat pay is a financial benefit provided to military personnel for service in hazardous conditions. This pay is in addition to regular earnings and is meant to compensate for the risks of duty in dangerous areas. The rules governing this pay are specific and affect how it is treated for tax purposes.

Qualifying for Combat Pay

The term “combat pay” is a general descriptor for what the Department of Defense officially designates as Hostile Fire Pay (HFP) or Imminent Danger Pay (IDP). A service member may be eligible if they are subject to hostile fire or explosions, or are on duty in a foreign area with a threat of physical harm from civil unrest, war, or terrorism. A service member cannot receive both HFP and IDP in the same month.

The monthly rate for both is $225, but they are treated differently for proration. HFP is paid for the full month, regardless of how many days the member served in a qualifying area. IDP, however, can be prorated at a daily rate of $7.50.

To receive this pay, a service member must be in a location designated as a combat zone. The IRS recognizes several locations for these tax benefits. Based on Executive Orders and Department of Defense certifications, these areas include:

• The Afghanistan area
• The Kosovo area
• The Arabian Peninsula
• The Sinai Peninsula

The designations for the Afghanistan and Arabian Peninsula areas also cover surrounding countries and bodies of water used for direct support of military operations.

Service in an area that directly supports a combat zone can also qualify a member for HFP/IDP, but this requires certification from the Department of Defense. Hospitalization for wounds, disease, or injury from service in a combat zone also qualifies a member for the pay and tax exclusions for the duration of their hospital stay, up to a certain limit.

Federal and State Tax Exclusions

A benefit tied to combat pay is the Combat Zone Tax Exclusion (CZTE). For enlisted members and warrant officers, all military pay earned in a month they serve in a designated combat zone is entirely excluded from federal income tax. This exclusion covers basic pay, reenlistment bonuses, and other special pays earned during that month. This income is still subject to Social Security and Medicare taxes.

The rules for commissioned officers are different. Their exclusion is capped at the highest rate of enlisted pay for a given month, plus any HFP/IDP they receive. For example, if the highest monthly enlisted pay is $10,758.00 and an officer earns $12,000 in basic pay plus $225 in HFP, the officer can exclude $10,983.00 from their taxable income for that month.

While the federal exclusion is clear, state income tax rules vary. Most states with an income tax also exclude combat pay, but some may tax this income or have their own provisions. Service members should consult their state’s department of revenue to understand how their combat pay is treated.

Impact on Retirement Contributions and Tax Credits

Although combat pay is not taxable, service members can elect to include it as earned income for certain purposes. This is beneficial for making contributions to an Individual Retirement Arrangement (IRA). To contribute to a Traditional or Roth IRA, an individual must have earned income, which tax-free combat pay normally is not. Electing to include it allows a service member to make IRA contributions they might otherwise be ineligible for.

This same election can impact the Earned Income Tax Credit (EITC), a refundable credit for low-to-moderate-income workers. Including nontaxable combat pay in the EITC calculation can increase the amount of the credit, potentially resulting in a larger tax refund. For the 2025 tax year, the EITC can be worth up to $8,268 for a taxpayer with three or more qualifying children.

The decision to include combat pay as earned income is optional and should be based on which choice provides the greater tax benefit. Tax preparation software allows for this comparison, calculating the tax outcome both with and without the inclusion of combat pay. It is an all-or-nothing choice; a taxpayer cannot include only a portion of the combat pay for these calculations.

Reporting Combat Pay on Your Tax Return

Tax-free combat pay is identified on a service member’s Form W-2 in Box 12 with the designation “Code Q.” This amount is not included in the taxable wages reported in Box 1, which automatically excludes it from federal income tax calculations. When filing, the primary action is to verify that the W-2 is accurate and that the Code Q amount is correctly entered into your tax software.

If you choose to include nontaxable combat pay as earned income for an IRA contribution or the EITC, you must make a specific election when preparing your return. This is not an automatic calculation. Tax software provides an option to include this income in the relevant calculations, allowing you to compare outcomes and choose the most beneficial one.