Old vs New Retirement System

[Stephen Hall]

I wrote this on my linkedin account but I just copied it here. You can find it at this link on linkedin if you want also.

https://www.linkedin.com/pulse/new-...ght-you-stephen-hall?trk=pulse_spock-articles

The new guidelines for the Blended Retirement System are now in place after the FY16 National Defense Authorization Act was signed into law. This brings with it an important financial planning decision for any service member who is planning to do a 20 year career. This decision is not an easy one. Each service member who joined the Armed Services after January 1st, 2006 but before January 1st, 2018 must decide if he or she will select the Blended Retirement System or stay with the current Legacy System.

At first glance many people may assume the Legacy System is superior, after all the purpose of this New System is to save taxpayer dollars, right? However, after some careful analysis some service members may decide that the new Blended Retirement System is in fact in their best financial interest.

Some characteristics of a career that will lean towards the new Blended Retirement System being more favorable include:

• Contributes at least 5% to TSP to receive the maximum match available
• Invests all of the 12 year cash continuation bonus (2.5X Base Pay after completing 12 years) in TSP
• Accepts a higher risk tolerance for TSP investments (yields higher returns)
• Joined Armed Forces later in life (closer to today than 2006)

What is the best answer for you? Put simply, that depends. Find out for yourself by using the spreadsheet I linked at the end of this article.

Notice that whichever graph is above the other will indicate which system works better for you. The location on the graph where the lines cross (if applicable) indicates the future point in time where both retirement systems are considered equal in value for your situation.

Beneath the graph you will find helpful tables to compare the retirement pay (gross and with investment returns) for both the Legacy and the new Blended Retirement System.

I hope this helps all service members make informed decisions about their retirement choices.

Note: You must download the spreadsheet to your computer and open it with a "Macro Enabled" version of Excel 2010 or later. Select "Enable Editing" and "Enable Content" when prompted.

https://app.box.com/s/1n03qfbeuc6jtmqiygarphhpfgwvp68o

 

[Spekkio]

It looks like it is counting the cumulative match as annual income when the match is made, even though I can't withdraw that money until age 60, and continues to tally the match past retirement age when I would no longer be AD.

 

[Stephen Hall]

The graphs gives a cumulative benefit over time starting from January 1st, 2018. It compares the cumulative benefit for each type of retirement system. The money that the service member contributes to TSP is not part of the cumulative benefit, only the matching component.

I agree with your second point about not tapping into TSP until 60 but converse to that is the up to 5% match a member will get beginning in year 2 of AD which the old system does not offer. That extra money earlier increases your investment base much earlier than under the old system.

 

[Spekkio]

Yes, I saw that an edited my post for that first part...since the contributions are never counted then it washes out as far as the gains are concerned. Still, you're missing something in your comparison when you are overlooking the fact that I am taking a 6% paycut in the short-term to get more money when I turn 60 under the new system.

But the spreadsheet is still adding 5% of government matching at O-5 pay past my retirement year, and that is incorrect.

I've done a spreadsheet without fancy macros or graphs, the new system would cost a brand new officer about $120,000 if he lives to 80, $226k if he lives to 70, and $197k if he lives to 60 with 4-5% average returns. This is because he can't actually have that income from the TSP until he turns 60. That's with a 6% withdrawal rate that will run out by 85-90, but hey you still have a 40% pension so might as well use the money. Even under more generous returns it would take until your 70s until a person can actually withdraw the money and break even with legacy retirement.

Meanwhile your spreadsheet is telling me I the legacy system won't win out until past 72, which is because I am apparently earning a 5% match for life and the money sitting in a TSP account that I can't touch counts as income.

 

[Stephen Hall]

The spreadsheet stops the matching as soon as "Retired" is chosen in the last input section. You may have not done that part correctly. I'll take a look at it to make sure when I get back to work. Check to see if the red box turned green, that's the trigger.

 

[Stephen Hall]

Yes, I saw that an edited my post for that first part...since the contributions are never counted then it washes out as far as the gains are concerned. Still, you're missing something in your comparison when you are overlooking the fact that I am taking a 6% paycut in the short-term to get more money when I turn 60 under the new system.

But the spreadsheet is still adding 5% of government matching at O-5 pay past my retirement year, and that is incorrect.

I've done a spreadsheet without fancy macros or graphs, the new system would cost a brand new officer about $120,000 if he lives to 80, $226k if he lives to 70, and $197k if he lives to 60 with 4-5% average returns. This is because he can't actually have that income from the TSP until he turns 60. That's with a 6% withdrawal rate that will run out by 85-90, but hey you still have a 40% pension so might as well use the money. Even under more generous returns it would take until your 70s until a person can actually withdraw the money and break even with legacy retirement.

Meanwhile your spreadsheet is telling me I the legacy system won't win out until past 72, which is because I am apparently earning a 5% match for life and the money sitting in a TSP account that I can't touch counts as income.

I just confirmed the spreadsheet does not continue to provide a 5% match for life. It stops as soon as "Retired" is selected in the last column.

 

[Spekkio]

Ah, yes, my bad I didn't input the last year in the table as 'retired.' That fixed that issue.

However, you are still running into issues because you are comparing legacy cash-flow starting at retirement to new system net value sitting in TSP, yet you are still calling the latter 'income.' In other words, your spreadsheet shouldn't be telling me that my "income" with military retirement at age 50 would be higher under the new system - my actual cash flow into my bank account would be cut by about $10,000 a year until age 60. It is true that under the new system I have a nest egg in an account, but under the old system that same nest egg still exists, just not maintained by me, and is theoretically infinity until both my spouse and I pass away, at which point you can quantify the nest egg by how much I withdrew from it.

Aside from that you have two calculation errors. First, your 'with return' column in the new system includes the annual retirement pay and compounds it by the interest rate, which is wrong because you won't invest 100% of the retirement pay into TSP. The other issue is that the value of the TSP is never deducted past retirement, so you are compounding a higher value than should be in there past age 60. For example, at age 63 I will not have $2,021,334 in TSP to be compounded by the average gain rate if I only count the government contribution. That number is actually going to be around $260k-300k, which results in an annual dollar return that is an order of magnitude different. These two things together are giving a much higher dollar return than you would actually see under the new system and makes it look more favorable than it is.

It's a good start but it would be much more readable and accurate if you stuck to comparing cash flow vs. cash flow, even if you wanted to do a cumulative tally.

 

[Stephen Hall]

Ah, yes, my bad I didn't input the last year in the table as 'retired.' That fixed that issue.

However, you are still running into issues because you are comparing legacy cash-flow starting at retirement to new system net value sitting in TSP, yet you are still calling the latter 'income.' In other words, your spreadsheet shouldn't be telling me that my "income" with military retirement at age 50 would be higher under the new system - my actual cash flow into my bank account would be cut by about $10,000 a year until age 60. It is true that under the new system I have a nest egg in an account, but under the old system that same nest egg still exists, just not maintained by me, and is theoretically infinity until both my spouse and I pass away, at which point you can quantify the nest egg by how much I withdrew from it.

Aside from that you have two calculation errors. First, your 'with return' column in the new system includes the annual retirement pay and compounds it by the interest rate, which is wrong because you won't invest 100% of the retirement pay into TSP. The other issue is that the value of the TSP is never deducted past retirement, so you are compounding a higher value than should be in there past age 60. For example, at age 63 I will not have $2,021,334 in TSP to be compounded by the average gain rate if I only count the government contribution. That number is actually going to be around $260k-300k, which results in an annual dollar return that is an order of magnitude different. These two things together are giving a much higher dollar return than you would actually see under the new system and makes it look more favorable than it is.

It's a good start but it would be much more readable and accurate if you stuck to comparing cash flow vs. cash flow, even if you wanted to do a cumulative tally.

I can address both your claims to there being an error in the spreadsheet.

Claimed error #1: You cannot compound all retirement income because not all retirement income will be invested (in TSP or other non TSP).

Explanation: What you are bringing up is that a person will begin consuming wealth instead of increasing wealth while they are retired. I agree this happens to a lot of people but it is irrelevant because it is constant in both the old and the new system. In other words a person will reduce their IRA or TSP value by the same amount regardless of which system they are under. Because of that it is irrelevant towards figuring out which system is better.

Claimed error #2: The Value of the TSP is never reduced past retirement

Explanation: This is similar to the first claim and again it addresses the consumption of retirement wealth. A person will be a wealth consumer the same in both scenarios so it is therefor a constant that does not help someone figure which system is overall better.

The graph is showing cumulative benefit without any reduction for consumption. The amount of consumption is irrelevant because it will remain constant in either retirement system.

 

[Stephen Hall]

The best way to clear this up is to change the name of the y-axis to "Retirement Benefit with Returns" and not call it "Retirement Income." I think that may clear it up.

 

[Spekkio]

I understand that you are trying to claim that wealth is wealth, but it's very relevant because you're looking to quantify a dollar value, not return percentage.

5% of 2 million is $100k. 5% of 200,000 is $10k. That's just one year (63 to 64). By giving credit to retirement funds as being 100% invested and compounding that in the return, you are dramatically over-estimating the amount of wealth one accrues in the new system. How much you have available to be compounded the next year matters.

The other thing is that if you want to include the total sum of the TSP as 'wealth' then you cannot exclude the value of the military retirement, which is estimated to be $2 mil for the 50% plan and 1.5mil for the 40% plan assuming retirement at 20 years/O-5. The mistake is not that you are considering that 'wealth is wealth, doesn't matter how you spend it,' it's that you are comparing apples to oranges by comparing cash flows (old retirement) to total accrued wealth (new retirement).

 

[Stephen Hall]

The goal was not to determine the value of the system but to find out which system had more value. The main question is "Do the lines cross, and if so when?" The amount is less important than if the lines cross. The consumption rate is irrelevant because it is a constant.

 

[Spekkio]

Look, if you don't want to believe me that your numbers are screwed up, that's fine. Just don't go passing that thing around like it's truth, because the fact is if your Sailors are expecting to have $4 million in assets to their name by the time they are 70 they are going to be sorely disappointed. You don't make a spreadsheet that outputs a giant graph and then tell people 'that's not the point of the spreadsheet' when they point out that your Y-axis is completely wrong and you are counting an untouchable account as 'income.' Additionally, because you are mixing up cash flow with total account asset value, your crossover is reversed, if it even occurs at the right time.

Like I said, I've done a spreadsheet using cash flow to compare apples-to-apples, and if you did it that way you would see why the total value in the TSP actually matters - 20 year retired officers can make up the difference in cash flow under certain average investment conditions while enlisted Sailors cannot. In fact enlisted servicemembers will need very favorable market conditions throughout their careers and retirement if they hope to get equal or greater cashflow under the new system. This is aside from the fact that my spreadsheet doesn't make a false promise of having millions of dollars in net assets because I'm not applying the investment rate to each year of retirement pay.

The file is attached if you care to look at it. It's crude and the only thing you can really play with is the RoR and withdrawal rate (because I just made it for me and not to distribute), but it actually compares the bottom line - money you get to put in the bank after you retire from the military.

 

[Brett327]

^^ The Great Oz has spoken!!!

 

[wplax26]

I seem to have missed something on your spread sheet on the first block of Cumulative New Pay. Why is it negative? I read the comment but it didn't make any sense. Also, your "running total in TSP" formula is off by one block. It should be $k$2 not $l$2.

 

[Stephen Hall]

I seem to have missed something on your spread sheet on the first block of Cumulative New Pay. Why is it negative? I read the comment but it didn't make any sense. Also, your "running total in TSP" formula is off by one block. It should be $k$2 not $l$2.

I guess you're talking about Spekkio's calculator because I do not reference those cells in my sheet.

However, I do have negative numbers in my last spreadsheet. The reason why some numbers are negative in the S and the V column is because I am taking the difference between the Old and the New System. View it as an absolute value difference and look at whether it is shaded orange (legacy is better) or blue (new is better).