Understanding the Basics of State Retirement and Pension Plans
Understanding the basics of state retirement and pension plans is essential to plan for a secure future. Your hire date could affect which benefits you receive at retirement and whether or not you’re eligible for cost-of-living adjustments.
The FERS retirement system has three parts: a Defined Benefit program, Social Security, and the Thrift Savings Plan. You pay the cost of these plans each paycheck through payroll deductions.
Defined benefit plans
A defined benefit plan (DB) offers a guaranteed monthly payment upon retirement based on a specific formula. The formula typically factors in your final average pay, years of service with the employer, and other variables such as your age at retirement. You can receive these benefits as a lump sum or an annuity that makes payments over time. Some plans also allow you to name a beneficiary for the remaining balance should you die before you retire.
The employer usually funds these plans, but sometimes the employees contribute too. The grants are invested in a fund that meets the promised retirement benefits. Since the future returns on investments and benefits are not known in advance, an actuary regularly reviews the funds to ensure they will be sufficient.
Although most private industry workers don’t have state retirement and pension plan, most state and local government employees have these procedures. In 2019, about 58 percent of remote industry workers participated in a traditional defined benefit plan, while 98 percent of state and local government workers participated in a standard defined benefit plan.
If you participate in a defined benefit plan, read the summary plan description thoroughly. It will assist you in comprehending the specifics of your project, such as the payment alternatives and vesting conditions. It is also a good idea to contact your plan administrator if you have any questions or concerns.
Defined contribution plans
A defined contribution plan specifies a certain level of employee and employer retirement contributions (retirement savings) and allocates those amounts to individual employee accounts. At retirement, the amount the participant receives depends on the contribution level plus investment earnings. The value of these investments fluctuates. This type of plan also shifts the investment risk from employers to employees.
Many defined contribution plans include 401(k) plans, money purchase pensions, and employee stock ownership plans. The simplest definition of a defined contribution plan is an account to which the employee contributes a fixed percentage of their salary each year. These funds are invested in a choice of funds the plan sponsor offers. Some plans also match employee contributions, thereby increasing the total amount financed in the plan.
Contrary to defined contribution plans that promise a variable retirement benefit, defined benefit plans offer a fixed retirement benefit, often determined by a formula that averages the contributions and profits for a specified period. These plans often provide steady payments, such as a lifelong monthly benefit. Defined benefit plans are usually portable. However, these plans are not without risk, as they can significantly increase retirees’ expenses.
Tax-deferred savings accounts
There are numerous strategies for retirement planning, each with unique tax advantages. Generally, tax-advantaged accounts allow investors to defer paying taxes on their earnings until they withdraw them. It is desirable to people who want to reduce their current tax load and postpone paying higher taxes in the future.
There are several tax-advantaged savings accounts, including traditional IRAs, Roth IRAs, 401(k) plans, and 529 plans. Employers offer some, and others are open to anyone who wishes to invest in them. According to the IRS, these accounts are any investment vehicle enabling the investor to postpone paying taxes on earnings until the funds are released, typically after retirement.
Some of these plans include matching contributions from employers, while others do not. Employees can opt to contribute to a standard IRA or a 401(k), an example of a company-sponsored savings account. In addition, some small businesses may offer Simplified Employee Pension (SEP) plans, similar to 401(k) but not defined-contribution retirement plans.
In Washington state, for example, workers can contribute up to 3 percent of their salary on a pre-tax basis to the FRS Investment Plan. Depending on their membership class, they can also receive additional employer contributions. The investments are professionally managed, and fees are among the lowest in the industry.
Retirement income
While retirement income is a critical component of financial security, there are various sources to choose from. The most important is steady, predictable income sources such as Social Security and pension or annuity payments. Other income can come from various sources, including short-term bonds and cash kept in reserve. For most retirees, a good practice is to fund essential expenses with predictable income and use discretionary spending from savings or investments.
State plans must report annual point-in-time valuations of their assets and liabilities as part of government accounting standards. Pew analyzed these data to assess the health of state retirement systems. The results show that state retirement systems have reached the best funding level since the 2007-09 recession.
The improved performance reflects the substantial investment gains of the past decade, combined with continued contributions by employees and employers. Some states dramatically adjusted their contribution policies to address large legacy pension debts. Their efforts are expected to lead to positive amortization in fiscal 2021.
View your service credit and current earnings in your online account to see how your pension is doing. It is a secure site that allows you to access your benefits information 24 hours daily. You can also view the historical rates of return on investment funds in your account.
