North Carolina Bailey Exemption for Retirement Benefits

The Bailey exemption is not a legislative benefit. It is the consequence of Bailey v. State of North Carolina, in which the courts held that the state could not tax the retirement benefits of people who had already vested under a promise of exemption. North Carolina honours that promise as a settlement. The test is a date, not a rating and not a length of military career. A retiree who had five or more years of creditable service as of August 12, 1989 is exempt from North Carolina income tax on retirement benefits from a qualifying defined benefit plan. United States government retirees, including military retirees, are within the covered group. Where it applies, Bailey is better than the newer military retirement deduction, because it does not require 20 years of service or a medical retirement. A retiree who left the service at, say, twelve years but had crossed five years of creditable service before August 12, 1989 is exempt under Bailey and would not qualify for the newer deduction at all. The practical effect narrows every year for obvious reasons. Five years of creditable service by August 1989 means entry into service no later than 1984, so the covered group is retirees who are now in their sixties and older. A veteran in that cohort who has been paying North Carolina tax on retired pay should check the date, because the money is recoverable for open tax years. Claim it on Line 20 of Form D-400 Schedule S, the supplemental schedule, and attach the supporting Form 1099-R or Form W-2. A retiree who qualifies for both Bailey and the military retirement deduction should claim Bailey. Do not claim both for the same income.