Article taken from TREA: The Enlisted Association’s Washington Update – 9 May 2017
Two years ago when Congress was considering changing the military retirement system TREA was skeptical about what they wanted to do. While we were not opposed to giving active duty personnel a retirement account they could take with them if they left the service before twenty years, we were opposed to making military retirees pay higher fees for medical services in order to pay for those portable retirement savings accounts.
We were also concerned that Congress was trying to rush legislation through because history has taught us that when Congress rushes legislation that makes major changes in programs they usually make some serious mistakes. Nonetheless, Congress went ahead and implemented a new retirement system that will go into effect for all individuals who enter the services after January 1 of next year.
However, just as we feared, it has been discovered that there are some major flaws in the new retirement system. For active duty personnel, it turns out that if they take a lump sum payout as soon as they retire from the military, they could lose a tremendous amount of money that they would otherwise receive as retirement pay.
This is a complicated issue, but according to military reporter Tom Philpott, a 37-year old E7 could take a lump sum payment after 20 years of service and receive $174,454 in return for forfeiting 50 percent of retired pay until age 67. On the other hand that same E7 could receive a lump sum payment of $87,277 in return for accepting a 25-percent cut in retired pay until age 67. However, it turns out that if he accepted the $174,454 lump sum payment immediately after retiring, he would lose $488,363 in retired pay between ages 38-67. His net loss would be $313,909.
In the case of the $87,277 lump sum, that individual would lose $244,182 in retired pay that he would otherwise have gotten. His net loss would be $156, 905.
This is extremely unfair. In fact, the DoD Board of Actuaries has called it inappropriate and has asked Congress to not allow service members to have this choice.
But if Congress doesn’t act to stop it, or unless someone lets service members who come in under the new system know about this, it is likely that thousands of them will end up losing a tremendous amount of money they would otherwise have had.
Unfortunately, that’s not the only problem. It turns out that members of the Reserve Components (RC) also may end up losing out in the new retirement plan.
The new retirement system reduces the amount of retirement pay that is guaranteed to be paid by DoD in return for establishing new individual retirement accounts (IRAs) for each Reserve Component member. The idea was supposed to be that by establishing the IRA, an individual can leave the RC prior to reaching 20 years of service and still be able to have earned part of a retirement. If the individual stays until 20 years, the IRA was supposed to make up for the cut in guaranteed retirement pay that will be in place.
However, in order for this system to work as was theorized, the individual would have to contribute the maximum amount of money allowed by law ($18,000) to her IRA every year. But if that individual already has an IRA through her full-time employer, she can only contribute the maximum amount of $18,000 to one of her IRAs. If she contributes to her full-time employment IRA, she loses out on her military retirement. If she contributes to her military IRA, she loses out on her full-time employment IRA.
TREA is supporting new legislation to correct this problem for RC members. The service member Retirement Improvement Act (HR1317) would fix this problem by allowing RC members to contribute the maximum of $18,000 per year to both IRAs.
Of course, how many members earn enough money to contribute a total of $36,000 to their IRAs in a single year is another question altogether and one that convinces us that we were right to be skeptical of this new retirement system in the first place.