(Thanks to SamClem of Early-Retirement.org for the story that led to this post!)
Financial independence and retirement are accelerated by saving as much as possible in the Thrift Savings Plan, IRAs, and taxable accounts. Aspiring early retirees have two ways to accelerate their ER: earn more or spend less.
Military earnings rise with each new pay table, longevity raise, or promotion– but it’s all too easy to let lifestyle spending suck up the higher income. The raises in each year’s annual pay tables generally go up at the rate of the Employment Cost Index, hopefully keeping up with inflation but rarely exceeding it. Just boosting TSP contributions by the annual pay increase is not enough for ER.
Aggressive savers should invest as much as possible of both their base pay and every promotion’s pay raises while holding their spending below the previous pay grade. ER saving would be easy if an E-7 could hold the expenses of an E-1, but this is unrealistic. (It’s deprivation, too!) A more achievable E-7 goal would be holding spending at the pay grade of an E-6 and banking the pay difference between E-7 and E-6.
The graph below shows how quickly that savings can compound. It uses the 2009 pay tables and assumes that military pay keeps up with inflation over a 20-year career. It assumes reasonable promotion gates for E-2 through E-7 and O-2 through O-5. It also assumes that the member saves (only!) 10% of their base pay at one pay grade below their current rank, and 80% of their pay raise from their latest promotion.
Savings are invested over 20 years and compounded at a conservative 3% over inflation in the TSP, IRAs, and taxable accounts. 3% over inflation is a reasonable rate of return for an investment portfolio concentrated at least 80% in equities.
Here are the assumed promotion gates, which may vary by service and specialty:
Rank Years of service when promoting to that rank
The military pay tables include raises for both longevity and promotions, so members earn longevity raises every 1-2 years in addition to promotion raises. However these savings assumptions don’t include the longevity raises, so veterans will be able to use longevity raises for spending– or more savings.
Here’s an example of the savings goals for an E-5 in year 9 of their career. Their promotion to that rank occurred in year 7 and they’re attempting to live as though they were still receiving E-4 pay. They’re saving 10% of E-4 base pay and 80% of the pay raise (between E-5 and E-4 pay) from the “over 8 years of service” column of the pay table.
Next year (year 10) that E-5 promotes to E-6, but the graphed results conservatively assume that the pay raise takes effect at the end of the year. Their longevity hasn’t changed because they’re still over eight years of service but not yet over 10. So the same “over 8” pay scales are in effect and the member is saving the same as in year 9.
Next year (year 11) the recently promoted E-6 uses the “over 10” column for E-6 & E-5 pay grades. They’d save 10% of E-5 base pay and 80% of the pay raise (between E-6 and E-5 pay) from the “over 10 years of service” column of the pay tables.
Other conservative assumptions include:
- No money is saved during the first year of a 20-year career, which really hurts from a compounding perspective but is a reasonable fact of life.
- Active-duty military savings and compounding rates occur at the end of each year instead of at twice-monthly paydays.
- Tax-free allowances like Basic Allowance for Housing are not included in the savings rate, allowing them to be used for higher housing and utility costs.
- Special pay and bonus pay are not included, although a frugal ER would save both when possible.
The graphs show results for two different cases:
- Saving 10% of base pay (at the previous pay grade) and 80% of the promotion pay raise.
- Saving 20% of base pay (previous pay grade) and 100% of the promotion pay raise.
Note that a small increase in savings percentage has doubled the size of the final investment, even though the biggest raises occurred late in each career.
Graph of Saving Base Pay and Promotions Raises
The portfolio will grow even faster if more money is invested from early career savings, longevity raises, higher allowances, special pay, and bonuses.
If the chart above isn’t displaying correctly, here’s another link to a PDF:
Graph of Saving Base Pay and Promotions Raises
How many years does it take to become financially independent?
Frugal living is not deprivation
Start saving early
Military retirement spending: how much will I need?
Military retirement: how much can I really spend?
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