By Dr. Charles Patterson, WCI Columnist
Members of the armed forces are privy to unique retirement benefits that provide additional layers of long-term security. Between an inflation-adjusted defined benefit plan, lifelong affordable healthcare, and access to conservative fixed-income funds, stable sources of income are reliable as long as the US government doesn’t implode. For the officer-physician, these benefits constitute a safety net that should be strongly considered when planning their asset allocation while in the military.
Today, I will provide a framework from which to understand military retirement resources and argue that an aggressive asset allocation is appropriate for long-term portfolio performance optimization.
What Are the Typical Sources of Income in a Military Retirement?
You made it to 20 years of service, congratulations! Regardless of your diligence in saving, you are entitled to the retirement annuity. This pension program comes in multiple flavors (as described below), and it's inflation-adjusted and tax-favorable.
Defined-Benefit Program
The “High-3” or “High-36” System is the legacy-defined benefit program and the default for those entering service between 1980 and 2018. Under this plan, retirees receive a lifelong pension, calculated by multiplying 2.5% by the highest 36 months of basic pay during your service time. If you retired as a colonel at 20 years of service (having served as a colonel for three years), you would be entitled to approximately half of your basic pay every month for the rest of your life. For reference, this would be in excess of $5,500 monthly in today’s dollars. The fraction of base pay paid in retirement increases with years of service, such that a retiree with 30 years of credited service will receive a higher proportion (75%) of their base pay. However, under this system, there is no Thrift Savings Plan (TSP) contribution match. Further, it is cliff vested, meaning that if you separate at anytime prior to 20 years of service, you are not entitled to annuity benefits.
In 2018, the Blended Retirement System (BRS) came online, and it's currently the only system allowed for new recruits. Under this plan, service members now get a TSP contribution match (up to 5% of base pay). The pension difference between the BRS and the above legacy system is the fraction used with the multiplier: 2.0% instead of 2.5%. So, the pension benefit is decreased by 20%, but with the 5% TSP match, members who separate before the qualifying 20 years of service come away with more. Considering that only one in five service members stay to 20 years or beyond, this affords more flexibility in the “should I stay or should I go” calculus.
More information here:
What You Need to Know About the Thrift Savings Plan (TSP)
VA Disability Compensation Benefits
When retiring from the military, members are evaluated for service-related illnesses or injuries that may entitle them to disability compensation. This is added monthly income, and it exists in addition to affordable health benefits available by virtue of their military service.
Social Security
Military members pay into Social Security just as their civilian counterparts do and are entitled to benefits in the same manner. Accordingly, regular rules apply with regard to the age of eligibility, survivor benefits, etc.
Savings
As discussed in detail below, service members have access to the TSP and IRAs (along with their spouses). Most will qualify for Roth contributions depending on bonuses, their spouse’s income, and other individual factors. We will also note here that service members may pass their GI Bill benefits to their spouses and children, which should be included in the savings calculations for higher education. Speaking of savings, taxes on military income are exceptionally low and virtually non-existent when deployed. While not savings in and of themselves, retirees enjoy free access to the base commissary (grocery store), exchange (department store), fitness centers, and a vast array of resources and services from financial planning to vacations. All of these benefits can defray the costs of living in retirement if elected to be used.
Earned Income
A career in the military is generally a much shorter duration than in the civilian world. Thus, it is not uncommon to have a master sergeant who enlisted at age 18, served 20 years on active duty, and retired at 38. And so for the rest of their life, regardless of their employment status, a paycheck will flow monthly. Admittedly, this sum is not much to live off by itself, but couple it with an encore career (perhaps with its own 401(k)), and a later “true” retirement looks quite palatable.
Because of time spent in undergrad and medical school, a physician in the military will typically be eligible for retirement no earlier than age 45 but more likely between 47-49. This leaves the peak earning years open for a more lucrative civilian practice, all with the safety of knowing that financial security is not predicated on suffering arduous work hours, tolerance of bureaucracy, and the acceptance of a culture ambivalent to moral injury. That sounds quite lovely, I think.
Alternative Income Streams
Many physicians will add additional income streams along the way, whether it's real estate income, a side hustle, or a small business. These are well-documented and fabulous ways of avoiding principal withdrawals from retirement accounts outside of required minimum distributions (RMDs).
What Is an ‘Aggressive' Portfolio?
Aggressiveness here is defined as a willingness to carry a larger proportion of equities in retirement accounts, confident that fixed income in the form of the defined benefit plan will supplant the function of bonds. There exists a cornucopia of reasonable asset allocations to match your preferred level of risk, among them some single-fund plans. But as a general rule, young investors should take more risk (>75% equities) early and decrease their market exposure with age to shield gains from market risks.
For those serving in the military who are open to a 20-year career, it may be reasonable to either maintain a higher fraction of equities (think an added 10%-30% allocation) for a longer period of time. One can even argue that completely forgoing bonds is practical. Yes, there is added risk here. And of course, life circumstances change, and perhaps staying 20 years on active duty becomes less palatable or untenable. But by the time one makes the decision to separate before retirement eligibility, the investing career is still young enough to withstand and recover from most market downturns to which an aggressive allocation is exposed.
How Do Fixed Income and Other Income Sources Influence Asset Allocation?
If you are reading this on the WCI, you are likely a diligent and engaged long-term investor. This means that you are (or at least should be) following the 10 Commandments of The White Coat Investor and seeking financial independence regardless of a desire to retire early. This matters because if you haven’t taken care of the basics and you're not investing regularly, then you are probably better off directing your TSP contributions to a lifecycle fund or a conservative allocation that better shields principal. The G-Fund found in the TSP’s offerings is an excellent adjunct in this. But the premise here is simple: with ample income flows from fixed income sources outside of investment accounts, asset allocation heavily favors aggressiveness.
Broadly, asset allocation is an exercise that serves to maximize returns with respect to one’s risk tolerance in consideration of the investing horizon. Risk tolerance decreases if you are relying heavily on the 401(k)/TSP and do not have access to the pension. Again, this is the case for veterans who have separated prior to the 20-year vesting. The annuity, however, never dries up.
Minimizing living expenses in retirement expands the buffer needed for a risk-tolerant portfolio. If by the time you reach retirement eligibility, you have also paid off your mortgage, saved for education for your children, maxed out retirement contributions, and have the second (more profitable) half of your career waiting, risk tolerance looks very different indeed.
Why Be Aggressive?
Part of mapping retirement spending is projecting what the associated costs are going to be. If you can manage to keep expenses to a rate below the cash flow provided by the defined benefit plan, RMDs, and other above-described sources of income, then you can be well-positioned to maximize growth potential through increased risk. But why?
I find it a good and noble goal to avoid, as possible, ever spending the nest egg. Yes, that is why it is there and absolutely should be used if necessary. You’ve done well by doing good for others, and this diligence affords you the right to wield the tool that is wealth. Simply, wealth is an abundance of that which sustains. It is a tool that needs tending, but if kept in proper order, it will serve your purposes well and prudently. Knowing the history of market returns should motivate the long-term investor to capture them in the future and, in so doing, optimize the tool at their disposal.
That capital is a weighty symbol of your life’s toil and making it work for causes that further your construct of social good is a testament to the beneficence which you have sought throughout your career. Maybe that means leaving large portions to preferred charitable organizations. Maybe it’s leaving it to your offspring who are themselves seeking worthy endeavors. Maybe that means donating it to the federal government because they seem really good with money and you trust them implicitly. But regardless of how these resources are utilized, their growth is maximized with exposure to markets and time. A military retirement allows for aggressiveness even in retirement.
Conclusion
I’ve heard it said that there are easier ways to make a living than joining the military. I’ve heard the same thing about medicine. Certainly doing both (or either) won’t make you rich overnight. But with patience, time, and attention, a military physician can achieve a very comfortable post-career life.
In closing, I would like to share an observation that I am sure you also have noticed in working with veterans. For those who serve or who have served, time in the armed forces is formative, life-changing, and often close to the heart of our self-perception. For some, it may be the cause of strife or resentment. But almost universally, the relationships forged therein are a source of strength, affection, inclusion, and pride.
If wealth is an abundance of that which sustains, then we who serve are endowed with a relational wealth of inestimable value. And we would do well to be just as aggressive when investing in the relationships that color and enliven our days.
If you're in the military, how are you structuring your retirement once you separate from active duty? If you're already retired, would you do anything differently when it comes to your asset allocation? Have you found reasons not to be aggressive? Comment below!
Great post!
I am a retired military medical officer currently in my post military medical career and pretty much agree with everything you have posted and have followed the path you discussed.
The only things I would add:
1. Yes- the retirement benefits are generous and very valuable. However, this should be counterbalanced by pointing out that one (especially as a surgeon) makes less than half that one could make in salary outside the military. So non military physicians with careful planning should be able to afford themselves a similar retirement at a similar age.
2. The military discounts one can receive on active duty and as a veteran can be remarkable. I can only imagine how much we have saved over the years getting 10% discounts at Home Depot. Veterans can also get a lifetime free admission to national parks which is a wonderful benefit!
3. Lastly, having Tricare at a very low cost is a very valuable benefit. However, Tricare does not have a HDHP option so this does preclude one from having an HSA at any point in their career or retirement afterwards if still utilizing Tricare.
Thanks for this wonderful post!
I agree with everything you said. Retired O-6 also. TSP was not available for much of my career (started AD in 1990) but is a godsend. I treated my retirement as my “fixed income” allocation – since that is exactly what it is – and was 100% C,S,I fund in TSP and all S&P 500 or Total Market in IRAs. As long as you don’t sell in a downturn it has worked awesome.
Would also add that base pay increases with longevity also within same rank. Retiring at 30 years as O6 winds up being above $9200/month or $8680/mo + survivor benefit plan.
As a 24-year military retiree, I waited with anticipation for the TSP to be offered to us in 2001-2002. As soon as the C-fund was added, I transferred all my holdings from G to C. Now in retirement, all my fixed income is allocated to the G fund. The tax free pay and savings bond during deployment is a great way to save, also.
I’m 45 and in the guard. I will be retiring in a few years as an 06 with 24 plus years of service. I won’t be able to get my pension until I’m 59.
When I was in active duty I contributed to the TSP, but I haven’t contributed to it in about 6 years since I use my civilian 401k.
I’m wondering what an aggressive allocation should look like since I have 20 more years. Currently I have 93.7% in the L2040 fund, 6% in the C fund and 0.3% in the I fund.
Any recommendations on fund allocations. Should I consider a later life cycle fund to increase aggressiveness, or should I use some of the individual funds?
You should look at all of your investments (TSP, 401k, IRAs, taxable brokerage) as one big pot, then set your overall asset allocation from there. Lifecycle funds actually add complexity to your asset allocation, unless it is the only retirement investment account you use.
So for example, you might have all stocks, or stock funds, in your brokerage account that would be too costly in capital gains to adjust and sell, so just hold onto them there. Then look at your 401k and IRA to keep building into your overall asset allocation based on the availability of low cost index funds in these accounts. Finally, use the TSP to fill the gaps and complete your asset allocation to your desired overall ratios.
(I use the TSP for nearly all of my fixed/bond allocation in the G-fund and my international allocation in the I fund).
Yup. You need a written investing plan.
https://www.whitecoatinvestor.com/investing/you-need-an-investing-plan/
Lots of good options out there for asset allocations. Pick something reasonable and stick with it:
https://www.whitecoatinvestor.com/150-portfolios-better-than-yours/
I would say the L2040 fund is very conservative with 20 years to go. It currently has28% “bonds” (G and F funds), which will only go up in the coming years. Of course your idea of risk is certainly different than mine, so it may be right for you, but since you asked figured I would point this out.
Depending on your VA disability rating ( I believe below 50%), the VA compensation will be deducted from your military pension, NOT added.
Yup – that is correct. You have to have a service connected rating > 50% to be able to keep both Without one offsetting the other.
But I imagine most retirees have a rating higher than 50
%….
Agree, getting to 50% (which gets you concurrent receipt) is not particularly difficult for folks retirement eligible. As you approach 30 years, it gets easier and easier.
The amounts can be significant as well. At 50% you get about $12K per year (married and no minor children), 90% is around $26K and 100% is approximately $42K. As you approach retirement, get smart about the disability process. It has many “interesting” twists and turns which can cost you (or gain you) well over $1M over your life time.
I think you really hit it on the head with “aggressive strategy” being the correct one. One other article I found online talked about viewing your government backed pension as the portion of your 4% withdrawal strategy in bonds. Then the aggression should be greater the more your pension covers desired retirement income, as this is defacto “rebalancing” your portfolio. It seems that most of the above people who left comments have comfortable enough pensions (mine will be around $70k) that our balanced portfolio should be 100% stocks, with the possible caveat that retaining some bonds would allow us to purchase more stocks when the market is down…but even that is more greedy than required.
The article I mentioned above is certainly worth a read by any current or ideally future military retiree and can be found here: https://www.redeploymentwealth.com/retirement-planning/your-military-pensions-impact-on-your-retirement-portfolio
17yrs, O5 now reservist with 4 active. I’ve been trying to figure out a cost to benefit ratio for continuing to lace up my boots. I enjoy it immensely but I’m “lucky,” enough to be consistently over $600k with 1099 income and am 6 years from retirement eligible—HPSP—at 49 but won’t get pension until 62. My terror and math problem is a 7 (=9), month deployment: $350,000 lost income (includes DOD pays), $45,000 lost Sep-IRA contribution with 20 year growth (>$200k). I figure 12 years into my pension before I break even which puts me right around US life expectancy. Am I looking at this wrong or too logically when I really love putting on the uniform?
Sounds like you have enough money that you can do whatever you want with your life. If you want to be in uniform, then for heaven’s sake stay. I you hate it….well, suck it up for 3 more years and do what you can to avoid a deployment. 🙂