Dave Dingvean, 46, had run up the flag on the pole at Tolleshunt Major in Essex to show his support for soldiers in Iraq and Afghanistan.
But he was told by officials at Maldon DC council that it considered the flag to be advertising and it had to be removed or he could be taken to court.
Mr Dingvean raises money for the British Army Association and raises money for the charity.
He told reporters that within two days of the flag being flown he had a letter telling him to take it down.
"They said only a certain type of flag is permitted to be flown - any national or state flag is allowed," he said. "So I can fly the flag of Iraq, Baghdad or Afghanistan but not the Army flag."
He had been flying the national flag of Saudi Arabia in protest.
A spokesperson for the council said: "We have reviewed Mr Dingvean’s case and we are satisfied that on this occasion as Mr Dingvean is flying an official British Army flag to support his fund raising activities, hence the Council does not feel it is in the public interest to take this matter further."
The council pointed out there are strict rules for the display of advertisements and "we would be happy to advise residents should they need any guidance".