Research for Military Retirement

At their 15th year of service, military personnel who are eligible and intend to serve for 20 years must choose either: (1) High-3 retirement plan or (2) A reduced retirement (REDUX) and a $30,000 bonus paid at the 15th year of service. This paper is designed to help servicemembers make that decision. We describe the REDUX/bonus option as an early, partial cash-out of the servicemember’s retirement pension that the member pays back in the form of reduced retirement checks over his or her entire lifetime. We calculate how much the servicemember will “pay back” (the reduction in pension benefits) and we calculate the implied APR or interest rate for this loan. For example, an E-7 who retires at age 38 with 20 years of service is paying an implied interest rate of 14.3% and would see his or her retired pay reduced by $357,860 if he or she lived to 79 years. Even if the servicemember received the bonus tax free, the repayment amount is over 10 times the amount of the loan ($30,000). If the servicemember lives to 85, the repayment amount would be $473,216. For virtually all servicemembers, choosing REDUX/bonus is a bad (and costly) decision.

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At their 15th year of service, military personnel who are eligible and intend to serve for 20 years must choose (1) High-3 retirement plan or (2) a reduced retirement (REDUX) and $30,000 bonus at the 15th year of service. This paper is designed to help servicemembers make that decision. We describe the bonus in the second choice as an early, partial cash-out of the servicemember’s retirement pension, as the member with pay back the bonus in the form of reduced retirement checks over the entire lifetime. We calculate how much the servicemember will “pay back” (the reduction in pension benefits) and we calculate the implied APR or interest rate for this loan. For example, an E-7 who retired in 2006 at age 38 is paying an implied interest rate of 14.0% and would see retired pay reduced by $344,434 if he or she lived to 79 years. Even if the servicemember received the bonus tax free, the repayment amount is over 10 times the amount of the loan ($30,000). If the servicemember lives to 85, the repayment amount would be $455,463.

The current military retirement system dates back to 1947, when Congress implemented a common 20-year system for all services and for officers and enlisted personnel alike. Over the years, critics have charged that the system is (1) excessively costly and unfair to taxpayers, (2) inefficient, (3) unfair to the vast majority of entrants who do not serve long enough to receive any benefits, and (4) inflexible and hampers force management. The purpose of this paper is to provide these groups and other interested readers with a discussion of the issues relating to the military retirement system. To set the stage for the discussion that follows, the first main section outlines what a personnel system should do. Here, the purposes of compensation and personnel policy are reviewed and certain institutional constraints that influence the structure of the military compensation system are identified. The next section highlights the structure of the current compensation system and the outcomes that result from this structure. The third main section evaluates the past criticisms of the retirement system. The fourth section discusses the retirement reform recommendations of several past commissions and identifies the broad features of a revised system.