Military Families
Savings Strategies for Military Families
Tax-free combat pay can go into a Roth IRA and that money -- and all the earnings on it -- come out tax-free in retirement. Now that's a sweet deal.
By Kimberly Lankford, Contributing Editor, Kiplinger's Personal Finance
February 23, 2009
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Members of the military have special financial-planning needs. And, as a servicemember, you have access to many valuable investing programs that aren't available to the general public.
You may qualify for a pension in your late thirties or forties, far earlier than any civilian, and could receive health benefits for life. But there's no "partial vesting." You won't get anything unless you stay in the military for 20 years, and, frankly, most people don't stick around that long.
Even if you do qualify for a pension, it's doubtful that the payments will cover all your bills. You're usually entitled to 50% of your base salary if you retire at 20 years (and an extra 2.5% for every year you stay beyond 20 years). Plus, and this is a real sweetener, the amount is increased each year after you retire to keep up with inflation. But special pay and allowances (such as your housing allowance) don't count toward your pension calculation, so you could end up with much less than half of the income you're earning at the time you retire.
It's essential to do some of your own saving. The younger you are when you start setting aside even just a little each month, the easier it will be to build a healthy nest egg. Fortunately, members of the military have some excellent retirement-savings plans available, and the options have recently improved. Uncle Sam helps, too, giving you tax breaks to help supercharge your savings. It's up to you to make the most of your retirement-saving options.
Thrift Savings Plan: An Easy Way to Invest for Retirement
Military personnel have access to the same retirement-savings plan -- the Thrift Savings Plan -- as do civilian federal employees. Similar to a 401(k), the TSP offers a low-cost, tax-advantaged way to save for the future.
You can invest up to $16,500 in the TSP in 2009, and even more if you receive tax-exempt pay while serving in a combat zone. You can contribute combat-zone pay up to a total of $49,000 in 2009. (Get this: $30,000 contributed this year would grow to more than $300,000 over 30 years if your investments grow at an average rate of 8% a year.)
Because contributions from your regular pay escape taxes, they don't lower your paycheck nearly as much as you might expect; contributing $10,000 cuts your take-home pay by just $7,500 if you're in the 25% tax bracket (and even less if your contributions also escape a state income tax).
The TSP makes it easy to save. Contributions are deducted automatically from each paycheck, and steady investing can pay off big time. Say you contribute $300 every paycheck, which lowers your take-home pay by just $225 in the 25% tax bracket. Do that twice a month and you'll save $7,200 for the year.
If you start at age 25 and contribute for the next 30 years, you could end up with more than $900,000 by the time you're 55, if your investments return 8% per year. And even if you leave the military at age 40 -- after 15 years of contributions -- and never add another dime to your TSP account, you could still end up with about $670,000 by age 55 (again, assuming an average return of 8%).
Reality check: Although 8% might seem outrageously high considering recent stock-market returns, the long-term return of the stock market is even higher. Despite the devastating 37% loss of Standard & Poor's 500-stock index of large-company stocks in 2008, the average return over the past 82 years -- a period that includes several lousy markets, including the Great Depression -- stands at 9.6%.
The TSP offers five index funds that invest in large companies, small companies, international firms, bonds or government securities. Or you can opt for a lifecycle fund, which builds a diversified portfolio of the other funds to match your time horizon. Expenses for all of the funds are extremely low: about 15 cents a year for every $1,000 invested. So for a $100,000 portfolio, you'd pay just $15 a year in investment-management fees.
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Reader Comments (2)
Posted by: Dave Saunders at 10/03/2009 12:26:56 AM
Great article with good tips. a nice overview of military saving options
Posted by: John Cooper at 05/22/2010 03:12:00 PM
Hello. I wanted to post a note/receive feedback about telling the Army story with regard to personal finances: so here goes: Throughout my life, Ive often heard many people say You cant get rich in the Army. Assuming an individual is of sound moral character, is the previous statement actually true? Well, as long as youre willing to get rich slowly, I think the answer is no, its not true- you CAN get rich in the Army by following wise but simple financial advice. First, whats the most important thing here? BLUF: Having lots of money is good for taking care of ones Family, personal needs, and also (and this is really cool) its great for giving away to those in need. Serving in the military can help one accomplish those wonderful goals of providing for others. Next, lets define rich. Do you mean Bill Gates rich or do you mean having between $1,000,000 and $5,000,000 rich? Lets say for the sake of discussion, its the latter. If thats the case, then I say your average military serviceman and servicewoman can become millionaires in their lifetimes, even before their 20 years of service is up. The earlier they start, the sooner theyll be rich and the more they'll have. For technical info on how to go about becoming a military millionaire, search out Dave Ramseys Financial Peace Revisited....just check it out from a library. Whatever you do, get it! That is an excellent book and has the basics or responsible, simple, and effective personal finance. So, how do you go about becoming a military millionaire? Primarily, by taking advantage of the discipline and tremendous work ethic that the military develops in its personnel. Note, the pay is really not that bad: Simply put: Live debt free, live well below your means, invest wisely, and start early! Those are some of the keys. Why is the military so conducive to this type of approach? There are a number of reasons. Here are a few: 1. The military provides consistent raises (even if you dont get promoted): annual and bi-annual raises for years until you max out your pay scale. But if you work hard, youre likely going to get promoted. Also, the pay is pretty darn good even when compared to the civilian world. 2. A major/O-4 with 20 years of service can retire with a pension equal in civilian terms to about $2,500,000 (based on a study in 2006). Medical insurance for you and your Family is dirt cheap with excellent quality of care (by the way while in the service, or if retired, the costs for having kids is virtually nothing- and you thought Wall-Mart was a bargain!). 3. Its easy to start the government Thrift Savings Plan (TSP) and have it sucked right out of your paycheck. This is great for two reasons. The first is that its like a 25% return on your investment, since you dont pay taxes on those dollars until you collect on or after retirement. Plus, by reducing your taxable income, you beef up your federal income tax refund. (You can even have bonds sucked right out of your paycheck, by the way- the Army makes it EZ; maybe you dont get the reduction of your taxable income but you can still discipline yourself to save through the military pay systems allotments- and that is a benefit all by itself; youre basically forcing yourself to save.). 4. Speaking of reducing your taxable income: if you chose Tennessee as your state of legal residence, which the Army will allow you to do, you dont have to pay any state taxes the entire time you are in the service. There are other states, too, which help you avoid state taxes. 5. Its easy to give to charitable organizations such as AER and CFC. Right out of your paycheck- again reducing that taxable income and for a good cause! 6. You get 30 days of leave plus federal holidays plus training holidays. This means that you can re-charge your batteries and come back from R&R even better at your job. 7. Educational savings. The Post 9/11 GI Bill will pay for your degree. ROTC will also help pay for your degree. The Simultaneous Membership Program (SMP) programs with ROTC and the USAR/USARNG will also help pay for your degree. You, therefore, advance your learning and your life and all that money you would otherwise spend on college, can go straight into your investments. These are just a few reasons that will propel your average servicemember on to financial heights. A servicememember really can become a millionaire by the time their 20 years are up. Its happened before. Don't forget: you get all this while serving your country!