In a revolutionary shift in how it would compensate retirees, the U.S. Defense Department is considering adopting a 401(k)-like retirement plan and other financial incentives for those who serve less than 20 years, according to a new report.
The overhaul would largely preserve the existing system’s pension-style, fixed-income pay. But to offset a reduction of as much as 10 percent in lifetime retirement benefits, the department would offer troops cash payments earlier in their careers, including a 401(k)-style benefit at six years of service, a retention bonus at 12 years of service, and a possible lump-sum “transition” bonus at 20 years of service.
The options, first reported by Military Times, were among those included in a report Acting Deputy Defense Secretary Christine Fox submitted Thursday to the Military Compensation and Retirement Modernization Commission. The congressionally mandated panel is studying the issue and expected to release their recommendations next February.
After news of the report broke, the Pentagon released the 45-page document in its entirety and made clear the options are not proposals or recommendations.
“The letter you are speaking of from Deputy Secretary Fox was options that we agreed to and the commission wanted to consider for different ways at getting to the retirement benefit, ” Pentagon Press Secretary Navy Rear Adm. John Kirby said during a Friday news conference. “And that’s all they were. They were not proposals. They were not recommendations. We did not side with one over the other. But we provided them as I understand they wanted our input.”
Prepared in collaboration with the RAND Corp., a defense think tank based in Santa Monica, Calif., the report includes four options for military retirement reform: Keeping the current system unchanged, adopting a less generous cost-of-living adjustment for retirement pay, and two options that contain a mix of the ideas mentioned above.
Defense Secretary Chuck Hagel “has made it clear on the Hill and he’s made it consistently clear that he wants to work this through the commission,” Kirby said. “That’s the forum that he believes is the appropriate one for these issues.”
The new options are likely to be highly controversial among military families, as well as veterans’ service organizations and lawmakers who just recently defeated a much smaller change to scale back the annual cost-of-living increase to retirement benefits.
Vets groups said they’ve been bracing for proposals to revamp the retirement system since former Defense Secretary Leon Panetta floated ideas about reform in 2011 as a way to help reduce the federal deficit.
At the time, the Defense Business Board, a Pentagon advisory panel composed primarily of private-sector executives, recommended that the military scrap the current system — technically known as a non-contributory, cliff-vested, defined benefit — in favor of one based entirely on contributions from both troops and the department — a so-called defined contribution plan like the 401(k) offered by private companies.
“It comes as no surprise to us,” said Joe Davis, a spokesman for the Veterans of Foreign Wars. “This train has left the station — the Pentagon is going to change the retirement system.”
Davis said his organization is most concerned with exempting current service members and retirees from any potential changes by letting them be “grandfathered” into the existing system. It also wants to ensure new troops are made fully aware of any changes in benefits available to them, he said.
The military currently offers an inflated-adjusted lifetime annuity to troops who have served for at least 20 years. For those who entered service after 1980, the amount is roughly equal to an average of their three highest years of basic pay.
Because moving to an entirely 401(k)-style plan “was projected to have a devastating effect on retention,” the Pentagon looked at two hybrid concepts, both of which would include a “defined contribution element that would not require member contributions,” according to the report.
The defined-contribution plans would take the form of a Thrift Savings Plan (TSP), which is similar to a 401(k). Under the proposal, the department would be required to make contributions on behalf of troops, who would be vested after six years of service.
The supplemental pays would include a lump-sum separation, or transition pay, to service members upon retirement at 20 years, and a continuation pay to enlisted personnel at 12 years of service and to officers at 16 years of service.
“Both concepts pay a lower retirement annuity than under the current system, but offset this reduction with the addition of a new defined contribution element and through supplemental pays that would be in addition to existing special and incentive pays — effectively shifting a portion of deferred compensation to current pay,” the report states.
In a memo to Hagel, Army Gen. Martin Dempsey, chairman of the Joint Chiefs of Staff, said he and the service chiefs want the department to consider a mix of options, including defined benefits, defined contributions, supplemental pay, disability and survivor benefits, and accounting for cost-of-living adjustments.
“We do not support a retirement system consisting of 100 percent defined contributions,” Dempsey wrote in the memo, which was included in the report.
In addition, any changes to retirement pay must preserve a lifetime benefit “nearly equivalent” to what’s available today, include a “grandfathering clause” to exempt current personnel and retirees, and take into account the potential impact to recruiting and retention, he wrote.
The retirement package also must consider the “sacrifices” troops make, such as the frequent job interruptions for spouses, school changes for children and challenges in gaining equity in purchased homes, Dempsey wrote.
Any changes to the existing system are sure to generate criticism. Hagel drew fire last summer from veterans and public employee groups over a proposal that emerged from the department’s so-called Strategic Choices and Management Review, or SCMR (pronounced “skimmer”).
Under the recommendation, the Pentagon would have scrapped civilian employee pensions for military retirees who go back to work for the government after they leave the service. The review estimated that doing so could save $100 billion over a decade.
Hagel said there were no plans to put the changes into effect. But he warned that automatic budget cuts known as sequestration would force the department to implement radical initiatives to cut costs. “A sequester-level scenario would compel us to consider these changes because there would be no realistic alternative that did not pose unacceptable risk to national security,” he said at the time.
Kirby said the defense secretary wants to tackle pay and benefits issues, including retirement costs, now versus waiting 10 years when the problem has gotten worse.
“He’s made it clear that the longer we wait, the harder this gets going forward and the larger the crash is going to be when this becomes unsustainable,” Kirby said. “So better to take measured, deliberate, discrete action now while we have the ability and the time to do it than to just put our head in the sand and wait for another decade to go and then it gets really, really difficult.”