For military members, the retirement package has a significant financial value. Not only is there a lifetime pension, but also a healthcare package that is second to none. Unfortunately in my experience, the value that this package provides not very well advertised, nor understood, by most service members. Most members know that "staying in for 20" is valuable, but they lack a frame of reference to determine just how valuable it is when they are making multi-million dollar decisions to stay in, separate, or transitioninto the reserves.
I believe that present value of a military pension must be calculated in terms that members can understand and compare to other options that they may have in the civilian sector. Only then can families make intentional decisions that benefit their desired lifestyle.
I set out to do this in the simplest way possible while still accounting for pension and healthcare benefits. The goal is to assign a number on the value of a military retirement (pension+healthcare), translate that into a present-day dollar amount, and add it to compensation as "implied income." In essence, this analysis allows you to see active duty service as a monetary value - even though it's not visible in their paycheck. The key take-away from this analysis is that most members will suffer monetarily if they decide to leave the military past the 10-12 year mark.
First, I developed a standard career progression for an officer in order to calculate the Base Pay. For the majority of officers, a conservative estimate of career progression looks something like this: O-1 at 1 years
- O-2 at 2 years
- O-3 at 4 years
- O-4 at 11 years
- O-5 at 16 years
I then set a constant for the tax-free housing allowance (known as BAH) and selected USAF Academy, Coloardo as the area. I calculated the tax advantage of this plus the Basic Allowance for Sustenance (BAS) being tax-free.
Next, I had to place an estimate for the value of military healthcare, otherwise known as TRICARE. This is a widely misunderstood benefit and is something that often gets overlooked when assessing the military compensation package. During the Active Duty years, I assume this benefit to be about $5,000 per year. This is a very conservative estimate, but most civilian employers will pay for the majority of health insurance premiums, so I assumed a lower amount for this estimate.
After consolidating the numbers discussed above, I added them together to get total pay: Base Pay + BAS + BAH + Tax Advantage + Healthcare Benefit = Total Direct Compensation.
Next, the military retirement benefit must be calculated. To do this, I take total years of service (assuming the member retires at 20 years) and multiply it by the Base Pay for the final year in service. This assumes they served three years at that final rank and their highest 36 months of service was all at the same base pay (O-5 is my assumption for a 20 year Officer). Multiply that by 2% assuming that the member is in the Blended Retirement System (BRS), it would be 2.5% if the member was in the "High 3". The pension and the base pay will increase with inflation, but to simplify the calculations, I used the current year pay scale to remove inflation from the situation. Next, the healthcare portion of the military retirement benefit must be accounted for. I assume this to be $10,000 per year until 65, then I assume it to be $20,000 per year until death. This is likely a conservative estimate, but I wanted to use round numbers and avoid potentially overstating the value. Those numbers are probably the bare minimum value of this benefit for the most healthy person or family. If there are any serious conditions or health problems, the TRICARE benefit can be worth tens or hundreds of thousands in a single year as everything is covered. To summarize: Pension + Healthcare = Total Military Retirement Benefit.
Next, we have to bring that pension benefit into the present day to be able to understand it and "add" it to the salary in order to see true compensation. This is what sets this analysis apart from the typical cost benefits analysis of staying (or separating) from military service. Most people just say "Military retirement can be worth over one million dollars." That statement means nothing to most people; Is that $1 million today, or $1 million in 50 years?To get the value of the salary on an annual basis, you first have to find the Net Present Value (NPV) of the retirement benefit. Then, I use Time Value of Money (TVM) equation to figure out the exact amount per year that you'd need to invest to recreate that retirement benefit. For example, if you need $1M to recreate your retirement benefit, your implied income would be the amount per year that would need to be invested at 7% to accumulate $1M. I also assume that if a member were to separate and go into the civilian world, they would invest 50% of their raise to "recreate" the military pension benefit. Once again, this is a very conservative estimate. In reality, most people will not save 50% of their raise, and will simply spend more with a higher income, otherwise known as "lifestyle creep".
Rather than separating entirely from service, military members may also choose to transition into the Reserves or National Guard and serve until 20 years of service in order to receive some level of retirement benefit. To analyze the Reserves, I use the same analysis above to recreate the Base Pay as well as the retirement benefit. For the reserves, a "good year" is earning 50 points. An average year is 74 Points (out of what would be 360 for a year spent on active duty). Therefore, to simulate A transition from active duty to the reserves
I use this formula: Yrs of Active Duty Service*360+ (Years in the reserve*74)/360 = total years of service. I then multiply this sum by 2% (assuming the Blended Retirement System) to get the pension amount. The Reserves pension starts at 60 years old, and the member receives discounted healthcare and then TRICARE For Life (TFL) when they turn 65.
Here are some charts and tables that summarize the results:
Civilian Equivalent Income of Total Military Compensation
Hourly Civilian Equivalent Income for Military Officers in BRS
Hourly Total Military Compensation Equivalent for Military Officers
Here are the key findings from the results above:
- Unless you separate early and get into a VERY lucrative career field, most members will not be able to financially replace the military retirement benefit. You can see that even for a Captain with 4 years of service, they would have to make $191,159 to break even and invest 50% of the raise between their military and civilian pay. There are not many Captains in their mid-20s to early-30s that will be able to make that kind of money on the outside. This is critical to consider when looking at separating, even early in your career. The military retirement benefit may seem distant for young service members, but viewing it as part of your current year's compensation package gives you more of an apples-to-apples comparison to the civilian world.
- The further you get along in an Active Duty Career, the exponentially harder it is to replace the retirement benefit with a civilian salary. The math starts to get hard after 8-10 years. In the early years, you can make the case that someone may be able to get a job on the outside with a very high ceiling and be able to make up the difference. However, for those that are in the 8-12 year range, they have to be able to make between $264,000 and $405,000 on the outside to financially justify the career change. This is just not realistic for most individuals. Once again I believe this is a conservative estimate. If you take into account other benefits such as the GI Bill and don't assume a 50% savings rate for a raise in the civilian world, these numbers are likely much higher.
- Reserve Retirement pays extremely well on a per hour of work basis, especially the closer you are to 20 years when you separate. The Reserves or National Guard is a great option for those with 8-10+ years of service that are tired of moving around and don't mind being tied to the military on a mostly part-time basis. You can see this option doesn't make as much sense for an O-3 getting out at 4 years, as they have to do 16 years of part-time service for a relatively small pension when they turn 60. The math is in favor of the Major with 10-14 years of service that can do part-time to get to their 20-year mark and still get a great healthcare benefit and solid pension beginning at 60. The crossover point in the above analysis is at the 12-year (O-4) mark when Reserves start to pay more on an hourly basis.
This study was fairly simple with limited inputs, but I hope it gives a better framework for assessing the value of a military retirement. As you assess your compensation compared to a civilian counterpart, use these numbers to get closer to a realistic comparison. Now there are two big caveats to the above analysis:
- This is done using a reasonable set of assumptions and numbers and may or may not be close to your situation. The only way to know the exact right answer for you specifically is to tailor this analysis to your situation. You may not agree with some of my assumptions and changing those numbers could significantly alter the results. There are also things that I did not consider in this analysis such as the GI Bill because it is not a universally relevant benefit, while a pension and healthcare are relevant to everybody.
- This is simply a quantitative analysis. It completely ignores many important factors of health and happiness. If no amount of money makes a military lifestyle worth it for you, then this analysis is irrelevant! The right answer for you might not be the right answer for someone else despite the similarity among your finances. Again, the goal was only to give a framework of comparison, not a one size fits all solution. You can't put a price on happiness. It also does not consider things such as potential travel incurred in order to carry out your Reserve duties. Although the benefits can be immense, Active Duty, Reserves and National Guard are still military jobs and require potentially more time "on the job" when it comes to traveling, deployments, etc.
I hope this was a helpful analysis of the true compensation of military members and gives a useful benchmark of comparison to civilian world compensation.