By Hank Coleman
Posted in Articles
Most people realize that members of the military can retire after serving 20 years on active duty. But, many service members do not realize that they have one of the most important decisions to make for their retirement during their 15th year of service.
Members of the military can choose to receive a one-time $30,000 cash bonus when they reach 15 years of active federal service. Taking the cash bonus at that time will reduce their future retirement pension by 10 percent for the remainder of their lives. After careful consideration, there are a lot of negative characteristics of the bonus that makes it a terrible retirement option. Choosing the REDUX retirement option will end up costing a military service member hundreds of thousands of dollars in lost retirement income during their Golden Years.
The Military Reform Act of 1986 created the REDUX retirement system. The option is eligible to all members who joined the military on or after August 1, 1986. Service members who select the CSB/REDUX retirement system at their 15th year of service receive a $30,000 Career Status Bonus in exchange for a reduction of retirement benefits when they retire.
Members of the military who choose this option reduce their pension benefits from 50 percent of the base pay to 40 percent for the remainder of their retirement, assuming that they serve 20 years on active duty.
When a service member chooses the REDUX retirement option, their future income is severely degraded. You might not think that a 10 percent difference is a lot of money, but it equates to a loss of $695 each month for an Army Major who retires after serving 20 years in the military. That $695 equals a loss of $8,340 over the course of one year. If that Major was 42 years-old at the time of his or her retirement and lives another 30 years to the ripe old age of 72, the loss will add up to just over $250,000 over the course of his or her lifetime.
Investing the bonus is a routine excuse that many people make for taking the payout. They foolishly believe that they can recapture their future losses through stock market gains. CNA Analysis & Solutions conducted a study on the REDUX Retirement System in which they determined that an E-6 who retired after 20 years of service would need a 13.3 percent annual return on the $30,000 bonus in order to make up for the estimated $370,000 shortfall in retirement income over the course of the member’s lifetime.
These figures are based on the calculations conducted in the in-depth study of the REDUX retirement option. There are very few investment options that earn 13 percent each and every year, which would make this loss of income almost impossible to recoup through savvy investment. If the past recession has shown nothing else, it illustrates that depending on year-over-year gains in the stock market is a fool’s errand and not a good rationale for taking the REDUX retirement option.
There are many additional features to the REDUX retirement plan that add to the pain and confusion over the system. Unless the member of the military takes the bonus while deployed in a combat zone, he or she will also owe taxes on the bonus. There is also a reduction in the cost of living inflation adjustments that military retirees receive every year. There is another loss of almost 1 percent of earnings because of this.
All of these attributes eat away at the military retiree’s pension benefits. The system is complex and not set up to help the retiree earn more during his or her Golden Years. It is set up to save the federal government money in the long run. The REDUX retirement option will cost retirees hundreds of thousands of dollars over the course of their lifetime for a small one time taxable gain.
Hank Coleman is a Captain in the U.S. Army, freelance writer, and the founder of personal finance sites such as Military Money Might. His writing has been featured on The Motley Fool, Military.com, and many others. You can follow him on Twitter at @HankColeman.