If you are a long-time Federal Government employee, the FERS basic benefit will be a primary source of income for you in retirement. If you’re wondering if FERS is a good retirement plan for federal retirees, while it isn’t as rich as the CSRS pension that preceded it, it is still an unusual and valuable retirement benefit in a world in which pensions are increasingly rare. Understanding how the fers annuity works both now and in retirement is a key part of determining when you can retire and here are a few key things you should know.
What is the FERS Basic Benefit?
The FERS basic benefit is a defined benefit plan, which is more commonly referred to as a pension. A defined benefit plan is a retirement plan in which the employer commits to providing a guaranteed pension payment based on a formula that factors in both the salary and length of service of an employee.
Most retirement plans – including the Thrift Savings Plan – are defined contribution plans in which the employer contributes a specified amount to the employee’s retirement account. For these plans, the employer is only guaranteeing to contribute a specific amount to your retirement account, and that guarantee is typically based on you contributing a specified percentage of your income. This means the employee bears the risk of poor investment returns or outliving her money.
Because the FERS basic benefit is a defined benefit plan, the Federal Government bears both investment risk and the risk you live longer than expected. Further, the plan also provides some protection against inflation in retirement because it offers a cost of living adjustment, although as we cover below, that inflation adjustment may fall short of full coverage if inflation increases significantly.
FERS retirement and federal retirement are often synonymous. Although the basic benefit is typically referred to as an annuity, it is what has traditionally been called a pension, and pensions are rare enough these days, let alone pensions that offer a cost of living adjustment provided as part of a FERS retirement. As you put together your long term retirement plan, you’ll find inflation adjustments are key in allowing you to keep up with inevitable increases in expenses over the course of retirement.
The basic annuity is the cornerstone of a successful FERS retirement, but as we’ve outlined above, there are several other benefits that come into play as well. The TSP is often at the top of the list when it comes to planning a Federal Retirement, followed by the federal employee healthcare benefits and the FERS supplement for those planning an early retirement (particularly special provisions employees). Make sure you understand all the relevant elements as you build your FERS retirement plan, and review your SF 50 to ensure the information used to calculate your benefit is correct. If you need assistance from a financial advisor well-versed in Federal retirement benefits, don’t hesitate to contact us to schedule an introductory call.
How to Calculate the FERS Annuity
The FERS benefit calculation is based on your salary, your creditable service and the age at which you retired. More specifically, the formula for FERS is:
Annual Gross Pension = High-3 Salary x Years of Creditable Service x Pension Multiplier
While the formula is fairly simple, determining the individual inputs to the formula can be tricky. Here are some guidelines that might help:
How to calculate creditable service?*
A good general rule of thumb is that if you worked in a position in which you contributed to FERS, that counts as creditable service. If you’re a long-time employee and worked prior to 1989, no deduction was taken for FERS, but you can elect to pay a deposit – typically 1.3% of your salary – to have that time counted as well towards your pension. Unused sick leave can also be used to increase creditable service.
If you leave Federal service and withdraw your FERS deposits, you also have the option to redeposit those funds (plus interest) if you return to service and want those prior service years to be creditable for FERS. This page at OPM offers more detail on creditable service and the rules for less common situtations.
What is included in Average Pay?
Average pay includes your basic pay, plus any other salary from which you contribute to FERS. Salary in this case includes locality pay and shift rates, but it does not include overtime or bonuses (you can find a more comprehensive list of what counts toward your High-3 here. Most Federal employees contribute 0.8% of their salary towards FERS, although relatively recent changes increased the rate to 3.1% of salary for those hired in 2013, and the contributes increased again to 4.4% for those hired in 2014 or afterwards.
Note that the calculation is based on the highest average pay for any 3 consecutive years. For most, these years will occur at the end of their career, but this isn’t always the case.
What Factor Do I Use?
Most Federal employees will use either 1% or 1.1% as their factor. 1% of your average high-3 salary applies if you are under age 62 when you separate or if you’re 62 or older but have less than 20 years of service. The upshot is that if you’ve got 20 years or more of service and are considering retiring at 60 or 61, make sure to calculate the impact of the 10% increase in the pension factor (and the pension) at age 62 to see if it might be worth working through that age.
There is a small group of Federal employees who can use a factor as high as 1.7% the first 20 years of service, and you can find that list here.
To recap, the standard age and service requirements to begin drawing your FERS annuity are as follows:
* Age 62, with at least 5 years of service
* Age 60, with at least 20 years of service
If you want to retire even earlier, you might be eligible for the Minimum Retirement Age (MRA) option. The simplest version of this option allows you to retire at Minimum Retirement Age as long as you have at least 30 years of service. Your MRA depends upon your birthdate, and the age is between 56 and 57 years (table here). Even if you don’t have 30 years of service, you might be eligible to begin drawing your pension under the MRA + 10 provision.
MRA + 10 allows you to retire if you have reached minimum retirement age and have at least 10 years of service. However, as we outlined in the next section, your benefits will be reduced under this provision if you elect to draw your pension prior to age 62.
What is the Minimum Retirement Age for FERS?
For most government employees, the two options with regards to drawing the FERS benefit are to take it immediately upon retirement or to retire and defer drawing the pension (we’ll cover early retirement and disability retirement in a future post). You’re eligible for the first option – immediate retirement – with no reduction in benefits if you meet the combination of age and years of service described above.
If you decide to retire under using the MRA (minimum retirement age) provision and you have between 10 and 30 years of service, you’ll see a reduction in your pension of 5% per year for each year you are under the age of 62. So, for example if you have 15 years of service and begin drawing your pension at age 59, your benefit will be reduced by 15%. Your minimum retirement age depends upon the year you were born, and varies between age 56 and 57.
You can also elect to defer retirement benefits when you retire. You might decide to do that because you don’t meet the age and service requirements when you separate or because you don’t want to receive a reduced pension as outlined above. In other words, if we return to the example of the 59 year old above, by waiting until age 62 to begin the benefit, the retiree would receive her full pension.
One additional factor that comes into play if you’re considering early retirement is the FERS annuity supplement. The supplement can come into play if
– You choose to begin drawing your benefit immediately
– The benefit is not reduced – i.e. you meet the age and service requirements to avoid a reduction in benefit
– You are not yet eligible for Social Security
The benefit is meant to act as a bridge until you are eligible for Social Security, which in most instances is age 62. The benefit pays an amount equivalent to what you would earn from Social Security at age 62, at which point you could begin drawing those benefits to supplement your pension and any other income.
When to begin drawing FERS is a question you should answer as part of your retirement planning process – and we find it’s helpful to think of that process as designing a retirement paycheck. One thing to note, though – if you do elect to defer your FERS benefit, you will receive no cost of living adjustments during the deferral period (but waiting will lead to a higher pension if you’re subject to the MRA scenario outlined above).
Once you’re ready to begin drawing FERS, if you’re planning on an immediate retirement, you would fill out form SF-3107, while the form for deferred retirement is RI 92-19. Once you begin drawing our annuity, you will receive a FERS annuity COLA (cost of living adjustment) that is based on the Consumer Price Index (CPI), with a few exceptions. If CPI is between 2 and 3%, your COLA will be 2%, and if CPI is in excess of 3%, the adjustment to your annuity will be 1% below CPI. There are taxes on the FERS annuity at the Federal level, while state taxes vary from state-to-state.