The Military Savings Order of Operations

Managing your finances can feel like a daunting task, especially when you're juggling the demands of military life. Whether you're just starting out or looking to improve your savings strategy, it's important to understand the best way to allocate your money. This guide will walk you through a simple and effective savings order of operations tailored specifically for military personnel.

First, not all savings is the same: the two types of savings that you MUST have are retirement savings and emergency savings. One will keep you off the streets when you're too old or broken to earn a paycheck anymore, and the other will keep you out of debt and out of trouble. Therefore you must start saving for both with your very first paycheck -- even if you have big bills to pay for a car, student loan, or Career Starter Loan, those are no excuse to skip building your Emergency Savings Fund. (For more read, "Emergency Funds: Why They Matter More Than You Think.")

Second, you'll need to weigh any other savings goals you have with any debts that you owe. When you have high-interest debt (8-9% or more, generally -- and definitely any auto loans or credit cards that are 15-30%!), the amount of interest you pay over time could more than meet a specific savings goal. In those cases, it will cost you less if you pay off the debt as soon as possible, and only then start saving for your goals.

On the other hand, if you have low-interest debt of 0-4%, you should consider saving at the same time. You could save up enough to make your first investment that can earn YOU interest of 5-12%, maybe more. In these cases, the profits (interest/returns) you get from the investment will pay for the interest on the debt with some left over. In these cases, pay the minimum owed on the debt while aggressively saving to make that investment that will eventually help you pay off the debt faster.

The Savings Waterfall

You've definitely seen this before -- or maybe you've seen it as "savings buckets" or some other system that shows the order in which you should save. Figure 1 is a typical example.

Have you seen this before? Have you tried to follow it? If you were to skip the first line for the Emergency Fund and just follow this to the max for each account, which is what it is telling you to do, you would save $75,150 before you started saving a penny in your "after-tax" savings:

• The annual payroll deduction limit to the TSP or 401(k) is $23,000
• The total annual TSP/401(k) limit is $69,000, so assuming 100% company match, this is another $23,000 in non-deductible contributions
• The annual gift tax exclusion in 2024 is $18,000, so that's the practical max on 529c contributions
• The 2024 limit on IRA contributions is $7,000
• The 2024 limit on Health Savings Account contributions for single taxpayers is $4,150

Ummmm . . . there's a problem here -- we don't make that much! This typical savings plan is only appropriate for high income-earners, like $212,000 or more at a minimum. And one other complication: since we get free health care through TRICARE, we are not eligible for an HSA.

And of course the biggest problem of all is that if you are following these guidelines and packing away all of your savings in specialty funds ear-marked for retirement, medical payments, or educational expenses, you have no savings for other things in life like a vacation, new car, or a home. You will end up paying heavy taxes and penalties if you try to take money from your TSP, IRA, HSA, or 529c early and use it for something other than that specific purpose. So what do you do?

In the military, you have to follow your own "Military Savings Waterfall". I've fixed the "rich guy waterfall" above to show you what this looks like in Figure 2.

For us, we focus on filling up our Emergency Savings Fund and saving at least 5% in our Thrift Savings Plan (TSP) from our very first paycheck. This ensures that we take care of our core needs. If we have extra cash to save, increase the TSP contribution to the "optimum" amount: on a 20-year savings plan, the enlisted "optimum" starts around 29% of Base Pay and drops to about 9%, while the officer's "optimum" contribution starts around 16% and drops to 6%. Those sub-maximum amounts will be enough to get you to $2-4 million in your TSP by retirement age (59 1/2 or 70, depending).

Having accomplished that, you should be saving into accounts that give you flexibility and portability. In other words, if you save into a 529c, you can only use that money for education expenses -- and if you don't, even though you can eventually roll it into an IRA, it will take 5-15 years to move the money. On the other hand, if you save into an after-tax brokerage account, you can use that money whenever you want and for whatever you want: a new car, a new house, a college education, medical costs -- or hang onto it until retirement.

Most novice investors will tell you that's a bad idea because the TSP, IRA, 529c, and HSA offer tax advantages, including tax-free income in retirement from Roth TSP and Roth IRA distributions. But an after-tax brokerage (think Schwab, Fidelity, Vanguard, Ameritrade, Robinhood, etc.) also offer tax advantages because, just like a TSP or IRA, you get your savings back tax-free, and only the profits are potentially taxed. But those profits are "Long-Term Capital Gains." Long-Term Capital Gains are taxed at a much lower rate than ordinary income. In fact, in 2024, you will pay 0% tax on your gains of up to $47,025 if you're single and $94,050 if you're married and have no other income.

An Order of Operation for Your Savings

Now that we've cut through the fluff and Wall Street propaganda that previously convinced you to sink all your hard-earned cash into retirement accounts that you couldn't touch for 40 years, let's take a look at your "SOP" for savings in the military.

• Step 1a: Build an Emergency Fund

Your Emergency Savings Fund (ESF) is your safety net, designed to cover unexpected expenses like car repairs, medical bills, or sudden travel needs and keep you out of debt. In the military, don't worry about "3-6 months of expenses" until you're ready to separate; until then, have just enough to pay for your emergencies. Usually $8,000-15,000 is enough.

• Step 1b: Pay Off High-Interest Debt

High-interest debt, such as credit card balances, can quickly drain your finances. Focus on paying off these debts as soon as possible. Use the “snowball” method: pay off your smallest debt first while making minimum payments on the rest. Once paid off, redirect the first debt payment amount to paying off the next smallest debt. This approach can provide quick wins and keep you motivated.

• Step 2a: Take Advantage of TSP Matching

Never contribute less than 5% to your TSP so you can get the 5% match (okay, so you get 0% your first 60 days, and only 1% your first two years, but you still MUST save for retirement, so just start out with a good habit!). This is essentially free money, so don’t miss out on it.

• Step 2b: Save the TSP "Optimum"

So long as you are not paying down high-interest debt and have the cash flow to do so, you should start out your TSP savings plan at $545 a month for enlisted and $577 a month for officers. Invested 100% in the C Fund for a 20-year career, these monthly amounts -- which never have to go up if started with Paycheck #1 -- will be enough to reach $2-4 million in retirement savings in your 60s.

• Step 3: Save for Short-Term Goals

Short-term goals are things you know are going to hit you in the next 5 years: 5 years is the cut-off between short-term and long-term. These can include a new car, the down payment on a house, or college expenses. Save in a High Yield Savings Fund (HYSA) for all short-term goals: you will get 4-5% interest, and you will be protected from the potential losses of stock market investments.

• Step 4: Build a Cash Reserve

Once your ESF is funded, build up a cash reserve that you will use to take advantage of great deals and investments. Some call this a "sinking fund", because if you take out $10,000 to buy a small duplex in Huntsville, AL, you have "sunk" the level and you have to fill it back up with more savings. At the Military Wealth Coach we call this your "War Chest," because it lets you strike quickly when targets present themselves. While the ESF keeps you out of trouble, the War Chest is what will help you quickly build wealth; like the ESF, keep this money in a (separate) HYSA.

• Step 5: Invest in Non-Retirement Accounts

Now with your extra cash that comes from bonuses, incentives, and promotions, don't keep filling up the buckets that are already full. If your TSP is going to have $2.5 million for retirement, adding more won't make a major difference. But saving up another $1 million in a brokerage that you can live off when you turn 50, aka "Early Retirement" will make a huge difference: 10 more years of freedom. Diversify your savings by investing in stocks, real estate, or businesses for long-term wealth. This is your 10-20 year plan. Not only will this possibly get you an early retirement, it will give you flexibility to help your kids pay for college, provide support to aging parents, or just about anything else you eventually discover you want.

Finally, don't forget to enjoy what you've accomplished. By following the Military Savings Order of Operation, you will build tremendous wealth for you and your family -- wealth that isn't all set aside for retirement, but that you can spend to live your Dream Life in your 50s, 40s, or maybe earlier. And also remember to reward yourself for reaching your financial goals, whether it’s taking a trip, buying something special, or simply enjoying peace of mind. Balancing savings with enjoyment is crucial to maintaining a healthy financial life.

Conclusion

Saving money in the military doesn't have to be complicated. By following this order of operations, you can build a solid financial foundation, pay off debt, and invest for the future. Remember, the key is to start small, stay consistent, and adjust your plan as needed. With discipline and determination, you can achieve financial stability and peace of mind.

Managing your money wisely will not only improve your current situation but also set you up for a brighter future. Start today, stay focused, and watch your savings grow.