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In the last two columns, we looked at two of the three different kinds of service credit deposits (additional payments employees make into their retirement funds to get credit for previous federal service): nondeduction service credit payments and redeposits of CSRS refunded contributions. This week, in the last of our three-part series, we'll look at military service credit deposits.

Problem

Deposits for military service credit work differently from civilian service credit payments. They must be paid by an employee's retirement date, because initial payment processing occurs in each agency's payroll system before the funds are transferred to the Office of Personnel Management. If you might be making both civilian and military deposits, it's important to understand the distinctions between how the two are handled.

Solution

The first thing to remember is that military service credit deposits only apply to service that took place after 1956. Military service performed prior to 1957 is creditable under CSRS and FERS without a deposit.

In 1956, Congress enacted a law requiring that CSRS retirees with annuities that included credit for military service performed after 1956 would lose that credit when they became entitled to Social Security benefits. This law coincided with a change in Social Security requiring that military wages be subject to Social Security taxes starting in 1957. Years later, as these laws began to cause recalculations of CSRS annuities, Congress passed another law to address the issue. This statute, passed in 1982, allows federal employees who were also veterans with post-1956 military service an opportunity to pay deposits into the retirement system to avoid the loss of their military service credit.

Here's how it works:

Deposits for post-1956 military service consist of payments to the employing agency equal to 7 percent (in the case of those in CSRS) or 3 percent (for those in FERS) of military basic pay earned during the period of military service. The payment transfers to the Office of Personnel Management when the employee retires (or changes payroll offices). Be sure to keep a record of this payment.

Interest on military deposits begins to accrue on a specific date that is at least two years from the date of your first appointment to a civilian position. Your retirement coverage and the date you were hired determine your interest accrual date. Most CSRS employees will have interest accrue on Oct. 1 each year. Most FERS employees will have interest accrue on the anniversary of the date they started in government. The interest rate for 2006 is 4.125 percent. Interest has been as high as 13 percent in 1985.

Now let's look at how the rules affect various groups of employees.

Employees hired after Sept. 30, 1982, must pay a military service credit deposit in order to receive credit for time spent on active duty. Unless the deposit is paid, this service will not be creditable toward retirement eligibility or in the calculation of CSRS or FERS retirement benefits. Interest continues to accrue until the deposit is paid or retirement is effective.

Here's an example:

• Retirement Coverage: FERS
• Dates of Military Service: Jan. 1, 1982-Dec. 31, 1987 (6 years of active service)
• Amount of Deposit: 3 percent (deposit contribution rate) x $124,000 (basic pay for the period of service) = $3,720
• Interest on Redeposit: Variable percentage compounded annually from third FERS anniversary = $2,432. (Interest on next interest accrual date = $253)
• Total Military Service Credit Deposit: $6,152
• Retirement Reduction: 6 (years of military service) x 1 percent (FERS calculation) x $65,000 (high-three average salary) = $3,900/year

Bottom line: Pay $6,152 and receive a permanent increase of $3,900 per year to your retirement benefits. The military service credit also may affect years of service needed for retirement eligibility. If an employee elects a survivor annuity, this credit will decrease the annuity by 50 percent of $3,900, or $1,950 per year. And remember, if the deposit is not paid, the employee will not be able to use the six years of active-duty military service to meet the minimum service requirement under FERS.

Now for employees hired before Oct. 1, 1982. In this group, CSRS employees and trans-FERS employees with a CSRS component may continue to receive full credit for their military service without a deposit if they are 62 at retirement and are not qualified for Social Security. Most people need 40 credits (equal to 10 years of work) to qualify for Social Security benefits. Employees who retire before age 62 who will not be qualified for Social Security by the time they reach 62 also don't need to pay the deposit. Employees who already have enough Social Security credits to be qualified will not receive credit in the computation of their CSRS benefit if they have not made the deposit.

So, for example:

• Retirement Coverage: CSRS
• Qualified for Social Security: Yes (or will be qualified by age 62)
• Dates of Military Service: Jan. 1, 1972-Dec. 31, 1977 (6 years of active service)
• Amount of Deposit: 7 percent (deposit contribution rate) x $64,000 (basic pay for the period of service) = $4,480
• Interest on Redeposit: Variable percentage compounded annually from Oct. 1, 1985: $10,237.11 (Additional interest on Oct. 1, 2006: $600)
• Total Military Service Credit Deposit: $14,717.11
• Retirement Reduction: 6 (years of military service) x 2 percent (CSRS calculation) x $65,000 (high-three average salary) = $7,800/year

Bottom line: Pay $14,717.11 and receive a permanent increase of $7,800/year to your retirement benefits if you are 62 at retirement. If you are under 62 when you retire, this deposit would avoid a reduction to your CSRS benefit of $7,800 per year when you turn 62. If you elect a survivor annuity, this credit will decrease the annuity by 55 percent of $7,800, or $4,290 per year.

If you were first hired before Oct. 1, 1982, and are not qualified for Social Security because you have less than 40 credits, you may not need to pay the deposit for your post-1956 military service. Check with Social Security to find out many credits you already have. Remember that the statements Social Security sends automatically each year are only estimates. Ask yourself the following questions to determine what you should do:

• Will you be 62 or older by the time you retire? If so, you do not need to pay the deposit if you have less than 40 credits. If not, see the next question:
• If you will be younger than 62, do you plan to work after you retire? If not, you do not need to pay the deposit. If you might work, paying the deposit could be a good idea, since it is possible you may earn enough credits to qualify. If you do plan to work, see the next question.
• Between your retirement and age 62, you can earn four credits per year towardSocial Security. In 2006, the minimum earnings for four credits is Social Security taxed wages of $3,880. Is it possible that you could earn 40 credits by the time you reach age 62? If not, you do not need to pay the deposit. If so, pay the deposit as insurance against losing your military service credit in your CSRS retirement.

Resources

• Retirement Facts 2: Military Service Credit under the Civil Service Retirement System
• Service Credit Payments for Post-'56 Military Service (Chapter 23 of the CSRS and FERS Handbook)
• Title 5, Part III, Subpart G, Chapter 83, Subchapter III
• Title 5, Part III, Subpart G, Chapter 84, Subchapter II
• Military Deposit Election Form
• Estimated Earnings During Military Service
• Application to Make Service Credit Payment (CSRS)
• Application to Make Service Credit Payment (FERS)
• Social Security Eligibility

Checklist

• Military Finance Center: Request an estimate of earnings during military service (see "Resources" above).
• Office of Human Capital: Upon receipt of estimated earnings, request a computation of military deposit. Make arrangements for method of payment. Request an estimate of your future retirement showing the difference in your benefit if you pay and if you do not pay the deposit.
• Social Security Administration: If you don't know if you are qualified for Social Security, find out.
Follow-Up

If you postpone the decision to pay your military service deposit, be sure to revisit this issue prior to your retirement. If you have already paid your military service deposit, maintain a record of this payment.