This post is part of The Comprehensive Military Retirement Checklist. Be sure to read all the other posts that go with the checklist, too! This post is also part of a larger series about the Survivor Benefit Plan. Here’s the complete list of posts.
The Survivor Benefit Plan (SBP) is often the most important decision of your financial life, and it is also probably the most confusing.
I can not emphasize enough how vitally important it is to thoroughly understand the Survivor Benefit Plan if a member of your family will remain in the military until retirement. While active duty members are covered by SBP, this coverage is automatic. Coverage after retirement requires a cost-benefit analysis, decision, and the signing of the appropriate paperwork.
The issue of military pay for surviving spouses (widows or widowers) is confusing and a little challenging. Military pay, retired or active, ends with the death of the service member, retired or active. However, a program was established in 1972 to allow retiring service members to purchase coverage that provides monthly income to survivors after the service member’s death. This is a separate program from military retirement pay, and it requires certain actions and payment for the coverage after retirement. Coverage for active duty service members is automatic and does not require any action or payments.
This program is called the Survivor Benefit Plan (SBP). It is an annuity, which means that it is a stream of payments, with premium payments made from the retired pay, and a large portion (between 40-50%) of the cost is paid by the government. The two biggest features of this annuity are that it is guaranteed for the surviving spouse’s lifetime (with certain remarriage rules) and the amount is adjusted each year based on inflation, so the net purchasing power remains the same.
Surviving military families may have a wide variety of immediate cash and/or income needs, depending on their full financial picture and including assets, liabilities, age, health, other income, spousal employment, children, and the “sleep at night” factor. Because of their varying needs, some families may want or need life insurance, some families may want or need an annuity, some families may want or need both. If an annuity is the right tool for your income planning needs, the price for SBP can not be beat.
The most important thing to know is that all aspects of the SBP decision are made when the service member retires. With very few exceptions, any election made at retirement is irrevocable. If married, the spouse is required to agree with the service member’s SBP choice to elect anything less than full SBP. It is very important that retiring service members and their spouses understand all the aspects of SBP so that they can make the right election at the time of retirement. Regardless of whether they took SBP or not, the families I know who are happy with their SBP decision are the ones who both understood the program thoroughly, and made the decision together about how it did or did not meet their family’s needs.
SBP provides monthly income to the beneficiary after the military retirement pay ends due to the death of the service member. In addition to its relatively modest cost, SBP provides an attractive income stream because it is inflation-adjusted each year and it continues until the death of the beneficiary. The benefit amount is based on the amount of retirement pay that you choose to cover – anywhere from $300 to the full amount of retirement pay. The surviving beneficiary will receive 55% of the covered amount each month.
SBP coverage is effectively immediately, on the first day of retirement. There is no requirement to make a minimum number of payments or have coverage for a certain amount of time.
Depending on your needs, a stream of income can have advantages over a lump-sum payment that you would receive from an insurance payout. A lump-sum is great for large, short-term expenses such as paying off debt, relocating, funding educational expenses, and giving the survivor a buffer to figure out how they are going to move forward.
For long-term income, there are a couple of significant risks to using a lump-sum payout. There is both personal risk and market.
The market risk is easy to identify: sequence of returns risk, investment risk,
The personal risk is harder to quantify, and can easily be overlooked.
First is the ability of the beneficiary to manage the lump sum while dealing with grief. Making a chunk of money last a lifetime requires careful investing, balancing the need for growth with the need to protect the principal. It also requires constant decision-making about how much to spend, finding the balance between spending enough to live will versus ensuring that you won’t outlive your money. We all know of older folks who sacrifice their own comfort because they are afraid of running out of money. That’s an awful way to live – but so is actually running out of money.
Why SBP Instead of Commercial Insurance or Annuities?
Key features of SBP that distinguish it from other products include:
- There are no medical or other eligibility requirements for SBP, and it can not be canceled due to health or age
- Lifetime income: You can not outlive SBP coverage
- Yearly inflation adjustments ensure that beneficiaries will maintain similar buying power each year
- Very low cost versus comparable commercial annuities
- Beneficiary options mean you can provide income to the people you desire
- Payments made from pre-tax income reduce your current federal income tax liability
- Premiums made directly out of retired pay means that coverage can’t lapse due to administrative or clerical errors
Why Some Folks Prefer Life Insurance
SBP is not the right tool for every situation. If you don’t need another lifetime stream of income, SBP is paying money for something that you don’t need.
Many people don’t like that there is no refund of premiums if the beneficiary dies before the retiree, and the only way to change that beneficiary is to remarry.
SBP benefits are taxable to the recipient, whereas life insurance proceeds are generally non-taxable. (There’s a whole book in that statement, so be sure that you thoroughly understand the taxability of the proceeds of any insurance policy you purchase.) However, when you math out the tax benefit of the pre-tax premiums and the taxability of the benefits, it generally comes out nearly a wash.
How Much Income Is Provided By SBP?
SBP provides income in the amount of 55% of the “base amount” covered. The base amount covered may be any amount from $300 per month up to the entire amount of retired pay. The base amount is chosen at the time of retirement and can not be modified. For example,
- $2000 base amount covered, survivor payments would be $1100 per month
- $1000 in base amount covered, survivor payments would be $550 per month
- $500 in base amount covered, survivor payments would be $275 per month
- or any other amount between the full amount of retired pay and $300.
The base amount is calculated as a percentage of full retired pay, and therefore adjusts with each retiree Cost of Living Adjustment (COLA). With each adjustment in base amount, there is a corresponding adjustment in premiums and benefit payments. This is another way that SBP ensures that benefits are not diminished by inflation.
How Much Does SBP Cost?
SBP premiums are always calculated as a percentage of the base amount of coverage. The cost of coverage depends on which category of beneficiary is selected. The most frequently selected beneficiary is the spouse or former spouse, and the premiums for these two categories are the same. For spousal coverage, the monthly premium is the lesser of:
- 6.5% of the base amount, or
- 2.5% of the first $635 ($15.88), plus 10% of the remaining covered amount.
For example, $3000 of base amount covered would require a $195 monthly premium for spouse or former spouse coverage. Keep in mind that this premium is paid pre-tax, so the net effective cost is lower.
Premiums for child coverage are based upon the age of the retiree, the age of the youngest child at the time of retirement, and the age of the spouse/former spouse, if combination coverage is selected. Contact your finance or admin folks to get exact costs.
Insured Interest coverage also has variable premiums that are based upon the age of the retiree and the age of the beneficiary.
The “Paid Up” Provision
SBP premiums to be considered “paid up” after 30 years or 360 payments, and having reached age 70. Once you’ve reached those two milestones, your coverage remains in force without any more payments due. This provision has specific parameters – check with your finance or personnel office for more details as it may apply to your exact situation. It may seem like you’ll never make it to 360 payments, but I actually know people who are paid up. (Heck, I’m related to one 🙂 )
I’ve had lots of folks ask me what happens if they die before reaching 70 years or making 360 payments. If you elect SBP coverage, your beneficiaries are fully covered as soon as you retire. They will receive full benefits if you die before reaching 70 years and 360 payments and will not owe any additional for that coverage.
SBP premiums are deducted from retired military pay pre-tax, which reduces the overall cost of the premiums. For example, if a retiree is in a 25% tax bracket and is paying premiums for spousal coverage at a $3000 base amount, here is a comparison of how paying the premiums pre-tax means that overall taxes are lower. You can also look at it as if the tax benefits are decreasing the cost of the premiums.
|Premiums Paid Pre-Tax||Premiums Paid Post-Tax|
|$3000 base amount||$3000 base amount, taxable at 25%|
|– 195 per month premium||= 750 income tax paid|
|= 2805 net income, taxable at 25%||= 2250 net income|
|= 701 income tax paid||– 195 per month premium|
|= $2104 net pay received||= $2055 net pay received|
Income from the SBP annuity is fully taxable.
One downside to SBP coverage is that you do not have the choice whether to pay premiums with pre-tax or post-tax money. However, it would be unusual for a beneficiary to be in a higher tax bracket than the covered retiree. Therefore, the lack of a post-tax premium option isn’t negatively affecting many people.
Important note: The SBP-DIC offset is being eliminated over the next few years. This information remains here for those transition years and for reference.
Dependency and Indemnity Compensation (DIC) is a benefit paid to survivors of service members who die while on active duty, or veterans who die of a service-connected condition. It provides non-taxable monthly cash payments for a set amount ($1257.95/mo for 2017, with additional amounts for dependent children or special circumstances.) A beneficiary cannot receive the full amount of both SBP and DIC. The amount of SBP is offset, or reduced, by the amount of DIC received by the beneficiary. Because DIC benefits are non-taxable, the net income is higher than if just SBP were received. I wrote an entire post about the SBP-DIC offset here: Understanding The SBP-DIC Offset. It’s a little complicated, but you can’t make a proper decision about SBP unless you understand this offset.
Special Survivor Indemnity Allowance While the law says that a beneficiary can not receive the full amount of both SBP and DIC, there is a special program that refunds a portion of the offset amount. In response to calls to repeal the SBP-DIC offset, Congress enacted a special payment for surviving spouses whose SBP payments have been offset as a result of receiving DIC. These special payments are called Special Survivor Indemnity Allowance (SSIA). It allows for an extra payment each month that fills in some (or all) of amount that it is offset. In the 2018 National Defense Authorization Act, the SSIA rate was set at $310 per month for 2018, and was made permanent. It will now receive yearly Cost-of-Living Adjustments like other military pays. I have many people come to me and say that the offset is unfair. Whether or not it is unfair isn’t particularly interesting to me, because it is what it is, and it has always been this way. No one changed the rules mid-way through the game. Make your plans with the rules as they currently exist, and deal with changes if they occur. It is important to note that if SBP benefits are offset by DIC payments, the beneficiary may receive a refund of those premiums paid into SBP.
Eligible Beneficiary Categories
There are multiple groups of people who can be covered by SBP, but I will group them into three general groups to make it a little more simple. I am going to give the synopsis of coverage here, because there are so many rules for each individual classification.
Spouse/Former Spouse: This is the primary category of SBP coverage, and may also include coverage for a former spouse. Unlike some other military benefits, only one spouse/former spouse may be covered by SBP at any time, and there are a web of rules regarding changes.
Children: Children may be covered in conjunction with Spouse or Former Spouse Coverage, or they may be covered alone in the Children Only category. Covered children may only be the children of the covered spouse. You can not cover a spouse from one marriage and children from another marriage.
An eligible dependent child must be your unmarried legal child, under the age of 18 or under 22 if enrolled in an accredited college or university. Incapacitated or disabled children are at any age. An incapacitated or disabled child is defined as a child who is incapable of self-support because of a physical or mental disability that existed before the 18th birthday or which was incurred before age 22 while the child was pursuing a full-time course of study.
Children are the only category of beneficiary that can allow a retiree to designate more than one beneficiary at a time, though payments may not be received by a spouse/former spouse and children at the same time. Multiple children will share the total benefit if Children Only coverage is selected, or if Spouse/Former Spouse and Children coverage is selected and the Spouse/Former Spouse stops receiving benefits due to death or remarriage. The child category includes not only natural children, adopted children, and step-children, but also may include grandchildren and foster children who meet certain eligibility criteria.
Others: Service members who do not have a spouse or children may elect SBP coverage for people who have an “insurable interest.” This is limited to one individual family member or non-family member who falls within certain criteria. The family member may be a the only eligible child of the service member (elected in lieu of child coverage), or it may be the adult non-dependent child, parent, step-parent, sibling, grandchild, niece, nephew, aunt, uncle or cousin. A non-family member may include a business partner or joint owner of property. Claims of insurable interest must be documented for non-family members, or family members whose relationship is further than cousin. This category is very helpful for couples who choose not to marry, yet want to provide benefits to their partner.
Cancellation In The Third Year Of Retirement
There is one regular opportunity to cancel your SBP coverage after retirement. From the 25th to 36th month of coverage, you can terminate your SBP election. Cancellation requires spousal concurrence just as it did at the time of retirement. You can not start your SBP at this time. There is no refund of premiums paid.
Cancellation Due To Disability
If you are rated as totally disabled, you may withdraw from SBP if you meet either of these two criteria:
1. You have had a service-connected disability rated by the VA as totally disabling for 10 or more continuous years.
2. You have had a total disability rating from the VA for at least 5 continuous years immediately following the last date of active duty
The idea behind this is that the surviving spouse would be eligible for Dependency and Indemnity Compensation (DIC). This is usually true, but consider whether DIC will provide enough coverage for your surviving spouse and children. In many cases, it will not.
A request to withdraw from SBP coverage due to disability requires the written consent of the spouse or other beneficiary.
If you choose to withdraw from SBP based upon your disability, be sure to remember that you need to apply to reinstate your coverage within one year if your disability rating is reduced. After that one year period, you will be unable to reinstate SBP coverage.
Should You Elect SBP Coverage?
For many military families, full SBP coverage is the right choice. I used to say it was absolutely right for everyone, and then I started working with some families who had enough other resources to make SBP unnecessary. If military retirement pay is a small part of your overall income strategy, then SBP may not be right for you. Every situation is different. You have to consider your specific situation.
However, if you have children, child SBP is almost a no-brainer. Whether you get it with spouse coverage or alone, the cost is insignificantly small. And if you have special needs kids who will be granted secondary dependency, you definitely want SBP. There’s another whole book in that, but definitely read up!
I like to look at lifetime income planning like a bucket. Your goal is to fill your bucket with a variety of sources of income until it is full. SBP is an affordable and quality program to fill a big chunk of your bucket if you don’t already have other big things in that bucket. Other contributors to that bucket might include any other pensions from the spouse’s employment or the service member’s second career, income provided by TSP, 401(k)s or 403(b)s, life insurance or other annuities, Individual Retirement Arrangements, real estate, and other income-producing assets. I go over ten things you should think about in Should You Choose SBP?
Even though this post is over 2,000 words long, I still haven’t covered all the nuances of special situations. Be aware that there are many regulations about SBP, including former spouse coverage, disabled child coverage, and insurable interest coverage. You can find more resources to learn about SBP at 10+ Places To Learn About The Survivor Benefit Plan.
This topic is dear to my heart, and I love to help people understand it better. The more questions you ask, the more everyone learns. I look forward to your comments and questions.
This post is part of a larger series about the Survivor Benefit Plan. Here’s the complete list of posts.