More Retirement for Less

If you didn’t already know, the US Defense Budget is huge. It is so completely enormous that, quite frankly, even the people involved can’t comprehend exactly how truly gigantic it is.  It is orders of magnitude beyond what most people can associate with money.

Many critics of the defense budget try to equate it to a traditional check book and think of it in terms of personal accounting.  You know, money in equals money out, don’t spend more than you earn, etc.  But when you’re talking about hundreds of billions of dollars (it comes to 3/4 of a trillion dollars when you take into account the separate line items for wars we are involved in), this type of personal accounting completely breaks down.  The DoD is, in essence, it’s own financial country and you need to think of it in those terms.  Not only does the US spend more on Defense then the entire world, the numbers involved are larger than the GDP of a surprising number of nations.

I’m not saying this to make any kind of excuses — you know you’re not going to get that here! — rather, I’m bringing it up so that when we start talking about real numbers you try and keep it in persepctive. The numbers that will be brought up in this blog article will be surprisingly large in perspective to personal spending, so don’t freak out.

Ready?  Then let’s talk about Retirement!

The Current System

The current military retirement system is an “all or nothing” pension plan the provides 50% of base salary upon completion of 20 years of service.  For those who stay longer than 20 years, an additional 2.5% is added on for every extra year up to 30 years (75%).  The key takeaways here are 50%, base salary, and 20 years.

That means that if you serve 19 years, 11 months and 28 days you get nothing.  Zero.  You have to be in the service for a minimum of 20 years to receive anything.  It also means that it is 50% of salary.  This is important because a military salary is not the same as a civilian’s salary.  During active duty, a military member gets a lot of pay that is not part of their salary and takes the form of special allowances.  This is great for tax purposes (we’re not taxed on allowances) but not good for calculating retirement.  What is an allowance?  Housing is the biggest one but there are smaller ones for food, danger pay (flight, dive, etc), hazardous duty pay (combat), family separation (deployment), and a few others depending on your rate/MOS.  Allowances generally make up about 30% of your pay while serving.  Want to know what the salaries are for military?  It’s completely public information and you can find it HERE.

So, when calculating your military retirement, use 50% of the number in the far right column for each rank.  For many, it ends up being between $3 and $4k/month. Enough to cover the mortgage, utility bills, and maybe a little more depending on where and how you live.  Not a fortune, but a very nice safety blanket for many.  But remember, its 50% of a member’s salary, not 50% of their take home pay.  In all honesty, it ends up being about 30% of take home pay.

I know, these are pretty small numbers and you’re wondering why I made a big stink a couple of paragraphs up.  We’re getting to the big numbers now, as we’re about to discuss…

The Cost of the Current System

Unlike a 401k, which is a joint investment between the member and the employer, the DoD Pension is not paid for by contributions to an investment account.  There is no pot of money with every member’s name on it.  Instead, each year the DoD budget contains a line item for paying its’ retirees out of that year’s tax receipts.  For the last few years, this has hovered around $40 Billion every year and services 2,135,000 members for an average of $19,756 per member per year for an average of 50 years.  This average is a little confusing, as it covers not only retirees from every war this century (including WWII), but also survivor benefits and both partial and total disability payments.  That’s a wide range.  To make this manageable going forward, instead of discussing the full band of salary possibilities, I’ll focus on one:  an O-4 (MAJOR/LCDR).

An O-4 final salary at 20 is $7,049/month.  Retirement, therefore, equates to $3,524.50 per month, every month, for about 50 years (from 42 to 92).  The total of that is $42,294/year * 50 years = $2,114,700.  That does not take into account the annual cost of living increase of about 2.5% per year, but I’m sure you get the picture.  The military retirement, for a mid-grade officer, costs the government about $2.1M spread out over 50 years.  It is NOT an asset of the member — there is no account or escrow that holds the money — and it is dispensed to the member at the beginning of each month (not twice a month, like their paycheck) for the remainder of their life after the service.  This money is not an allowance, and it is taxable income.

All-in-all, this is not a bad pension.  Many in the US right now would love to have a guaranteed paycheck of $42k each year.  But it is very expensive.  Too expensive, for too little benefit.  By paying for the pension directly out of the budget each year, we are missing an extraordinary opportunity, not only for savings but also for investment in America.

An Alternate System

To recap the above, the current system, for an O-4, pays out $42K/year, has an expected cost of $2.1M/officer, and is all paid for in government cash.  The member gets nothing unless serving a minimum of 20 years.  And, finally, the current system does not take advantage of any interest compounding in any way.

But what if it did?

Before you start, I’m not talking about the current TSP investment program, where military and government civilian employees can contribute to a special series of funds only available to government employees.  Instead, I’m talking about using the TSP to provide a much more flexible, affordable, and powerful retirement plan for members of the military.

There are five funds in the Thrift Savings Plan (TSP), labeled funds C, S, I, F, and G.  They are all market index based funds with low fees and deferred taxes (you pay with pre-tax dollars and pay taxes when you withdraw).  Their performance, like many funds these days, has varied pretty wildly over the last decade, except for two:  Funds F and G.  Fund F is a bond market based fund and Fund G invests exclusively in non-marketable, short term Treasury securities.  Fund F has a 10 year average return of 6.39% (and, yes, that’s current) and Fund G earns a 10 year average of 4.62%. Not huge numbers, but solid and fairly steady.  The average of these two funds is 5.5%. Remember that number.

To have 50 years of $42k, you need to have $800,000 invested at 5.5%.  To get there over a 20 year career, a member must invest $22k every year that they serve.  Considering that’s a lot more than 10% of military salary (an O-1 salary is only $33k), the government needs to step in and handle it.  But that’s no big deal, as they’re already planning to pay out $42k every year.  By being proactive, the government is providing the same benefit for half the cash flow and for less than 1/3 of the total cost!

This is no bull shit, here.  I’m deadly serious.  Same benefit, 1/3 of the cost. But, let’s not stop there.  Now that we’re thinking a little bit outside the box, let’s take another step.

The Benefits Keep Growing

The veterans who returned from WWII literally changed the face of America.  They were able to do this for a number of reasons, but chief among them was the GI Bill that gave military members a number of financial benefits from loans to college tuition.  As the IAVA will tell you, the GI Bill, while still pretty good, isn’t what it once was.  And, in case you’re wondering, I’m not talking about buffing up the GI Bill here, I’ve got enough going on with the retirement package.  What I want to bring to the fore is that financially backing military members is, generally, a good bet. Just ask the Fortune 500 companies that are clamoring for military officers.

What I am talking about is giving each military member access to the full amount of their retirement money when they retire.  For the sake of argument, let’s say that’s the $800k mentioned above.  What do you think would happen if that many motivated, intelligent, college educated, and leadership trained individuals had access to that level of cash at the ripe age of 42?  How many businesses would be started? How many new ideas, methods, technologies would be grown?

And, I’ll do you one better:  What if they didn’t have to wait 20 years?

What if the benefit was not tied to retirement, but only to service?  Serve 4 years, you get $88k plus interest.  That’s enough to pay off college loans or a down payment for a house or a graduate degree.  If you got together with others from your unit, it’s a sizeable investment in a small business.  Or it could just sit there continuing to compound interest at 5.5% until a great opportunity came up.  What about after 10 years or 15 years?  There are a lot of opportunities out there, and they don’t all fall at the end of 20 years.  Most pass those opportunities by, unwilling to risk the loss of that retirement annuity.  But if it was just an account…?  What would that future look like?

Also, back to that GI Bill.  What would have to be funded if a member got to keep the money?  I guarantee that level of cash would pay for college.  There wouldn’t be any reason for a military member to be living on the street after their enlistment ended.  And it would COST LESS than what we’re doing now.  No fighting over benefit checks or filing paperwork.  When you check out you’re given an account number and the number for a financial adviser.  Done.

What’s Stopping Us?

Again, quick recap:  Improved benefit, 1/3 of the cost.

Why aren’t we doing this?  Simple:  Cowardice, Laziness, and Momentum.  Harsh, I know, but it’s still the truth.

Politically, it’s very hard to fight for something like this.  The disruption a system revision of this magnitude would cause is immense.  Many, many people and offices have been built around the current, wasteful retirement plan.  People have spent much political capital getting it to this place.  To, basically, do a complete 180 is asking a lot.

In addition, once this idea gains a little traction, there will be a huge amount of push back.  There will be economists saying how putting this kind of money into the market will devalue money, or over value it, or destroy a carefully balanced capital system — and any number of other financial or market issues.  There will be those saying its like giving every military member a winning lottery ticket.  There will be “concerned citizens” proclaiming how all of us military members are too stupid to be given the responsibility of having so much money all at once (they’re my favorite, but the way).  All of these are total bullshit, but even crap has a way of sticking to the collective conscious if repeated enough.

Political leaders these days are, by and large, cowards.  And why not?  Cowardice is rewarded!  Don’t make waves, ride the moment, stay away from big legislation, get on TV, talk about nothing, smile, rinse and repeat.

A change of this magnitude, no matter how beneficial, is a lot of work.  Too much work.  In the government, we are waayyy too busy fooling around with email and moving from meeting to meeting to actually craft something like this.  It’s just too big and too complicated and, you know, what’s wrong with the system as it is?

Legislative momentum is a massive force and very hard to deter, partially because of the other two factors, but also because of our system itself.  We are not very agile, and it takes a long time to make even a slight course adjustment.  Look at Obamacare or Federal Campaign Reform.  Sure, they both passed through Congress, but how’s that implementation going?  It takes money, staff, planning, goals and follow up to make things happen — and that requires political will.  Something we are drastically short on these days.

What Could Be

Using a different way to pay for the military retirement will do a lot more to America than save $25B in the defense budget.  It would super charge our economy.  By investing, instead of just spending, America could be a very different place in a few years.  Just sayin’.

 

 

 

 

 

About Rob McClellan

Rob is the founder of ThirdScribe, a unique author services platform and social network. As a naval officer and diver, he spent a majority of his career doing a lot more than you would think with a lot less than you can imagine -- a skill that has proven extremely valuable in the start-up world. You can follow him on Facebook, Twitter or Google+.

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