Veteran's disability benefits aren't taxable. Whether the Department of Veterans Affairs pays you disability compensation, a disability pension or pays your family because of your disability, the money's tax-free. As a disabled veteran, you don't even report the benefits on your Form 1040. If you get disability benefits from another source -- your civilian employer, say -- being a veteran doesn't make them tax-free.
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Retirement Vs Disability
When you get a VA pension based on your years of service, that's taxable, even if you retire due to disability. If part of your pension is disability-based, that part is still tax-free. Sometimes the VA won't classify you as disabled until well after your retirement starts. When that happens, some of your previous pension payments may be retroactively reclassified as disability, which lowers your taxable income. You can get a refund for those earlier years by filing an amended return, Form 1040X, along with your VA disability paperwork.