While only a fraction of people who join the military serve at least 20 years to be eligible for retirement, those who do so enjoy many benefits. Retirement from the military can start as early as the late 30s for someone who joined right after high school, while many retire in their early-to-mid 40s. The pension and benefits offer a great springboard to a new career or, perhaps, an early retirement. The allure of the military pension is so great that service members at their 8 to 10-year mark often claim, “I’m already halfway there, might as well stay until 20!” Or some variation thereof. Many people seem to have a similar line of thinking in that, as long as they make it to 20 years, they don’t need to save money otherwise. That idea probably isn’t the best one out there.
I’m going to detail several reasons why the military pension, by itself, isn’t a retirement holy grail. I’ll even go as far as to write that if someone’s sole purpose for staying in the military is to earn the pension, perhaps their motivation is misplaced.
Before all that, though, I want to list the significant benefits associated with military retirement. First, that pension. At 20 years, a service member earns a lifetime pension of 50% of their base pay (40% under the new BRS). More importantly, though, especially for someone at 40 years old with 50+ years to live, is that the pension payments increase with inflation. Next in line is the Survivor Benefit Program. This program enables retirees to pay a monthly fee to guarantee that their spouse (or children in some cases) receive up to 55% of the pension payments for life if the retiree predeceases their spouse. Finally, the health benefits are incredible. Although the Department of Veterans’ Affairs has had a lot of bad publicity lately, having fully paid health care for life is becoming more and more important as health care costs skyrocket.
While the benefits afforded to military retirees are great, here are five factors that remove some of the luster:
Base Pay Only
Military paychecks include base pay, housing allowance, subsistence allowance, and possibly some special pays associated with unique job skills. For example, an Army Lieutenant-Colonel at 20 years of service with dependents at Fort Hood would receive $1,665 for BAH, $254 for BAS, and $9,009 for base pay. The total of all of those pays is a tad under $11,000 per month of $132,000 per year.
However, that 50% pension at 20 years goes off of base pay only. Accordingly, the monthly income in retirement would be about $4,500 give or take based on the High-3 average. In reality, that 50% pension only replaces about 40% of income.
Currently, military pension payments are considered income for tax purposes. Continuing on the theme from the base pay topic above, taxes on the pension payments reduce the amount of money that shows up in a retiree’s checking account. A 10% effective tax rate on the $4,500 payments from our example would reduce take-home pay by another $450. Don’t forget state taxes either. Some states don’t tax retiree pensions, but others do.
The actual effect of taxes will depend on income earned after military retirement. Higher income will result in higher marginal and effective taxes.
SBP Maximum is Only 55%
From one perspective, the Survivor Benefit Program (SBP) is a great program. If a retiree passes away and has a surviving family, they continue to receive pension payments up to 55% of the original amount. The standard mental image is of a retiree who passes in his or her 70s or 80s where the spouse depends on the remaining pension payments for support. However, other situations can occur, too.
Imagine instead that a retiree dies in a car crash at age 48. At that age, this retiree likely still has significant financial obligations such as college tuition and car and mortgage payments. While the SBP is excellent in that a portion of the pension payments continue, if family lifestyle and financial obligations are dependent on the full pension payment, the reduction could be devastating.
It’s Not Your Money
Perhaps one of the most critical framing issues concerning pensions is that the money does not belong to the retiree. Though some civilian and government pensions and the new BRS offer lump sum options up front, once converted to an annuity, the retiree is only entitled to the monthly payments. In other words, when the retiree passes away, 45% of those pension payments are gone forever and, when the spouse passes, no money is left behind.
Understanding this concept is critical. Under the pension, a retiree cannot decide to withdraw a lump sum to purchase a home, go on a trip, pay for their child’s college education, etc. Even under the SBP, the surviving spouse’s standard of living will likely fall. Contrast this reality with a lifetime of accumulated savings which can be entirely passed from one spouse to the other and then to a subsequent generation if managed correctly.
Political Winds Can Change
On this last point, I may receive some criticism, but it is still a correct point. For generations now, retirement eligibility has begun at 20 years of service. 2018 saw the first significant change in the retirement system in decades, reducing the pension multiplier to 2% instead of 2.5% and introducing matching TSP contributions for new accessions.
It’s not hard to imagine future pension reductions, even for service members who are already retired. With the non-discretionary portions of the federal budget (Social Security, Medicare, Medicaid) exploding combined with higher debt service payments as interest rates rise, the pressure to cut spending in other areas will continue to increase. Adding to the budget strain, Social Security will only be able to pay about 79% of benefits starting in the 2030s. I’ve already written about some possible outcomes from this reckoning in a previous post. It’s possible that, as people begin to feel squeezed on what to do about Social Security, military retiree benefits will likewise face political pressure for reductions.
Adjustments could be subtle, too. Perhaps cost of living increases are reduced. Or Social Security benefits are reduced for federal and military pensioners. Changes like this might seem unlikely, but keep in mind that someone retiring from the military at 40 could depend on that pension for 50 or more years! A lot of things can change in that length of time.
My relative negativity in this post isn’t to promote fear or suggest that military retiree benefits are inadequate. Instead, my purpose is to highlight that the benefits are an essential portion, but still only a portion, of an overall financial plan. Sole dependence on the pension without corresponding savings, investments, emergency funds, and life insurance create the potential for financial tragedy from which there is little relief.
Are you interested in learning more about financial planning and investing? Please visit my website to learn about how I help our service members and veterans plan for and achieve financial independence. You can also contact me at Derek.Merkler@Parsonex.com.
My blog discusses a myriad of financial topics and challenges, book reviews, and commentary on current events in the financial world to benefit our military and veteran community. I attempt to be as thorough as possible when examining each subject but can never account for every possible scenario. Please remember to consult with your own advisers for advice on your particular situation. Thank you for reading!
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