So … Should I Drop ????? for Civilian participants.
Before we decide, let’s take a look at why we even have a decision to make. FRS added the DROP program to the Pension in 1998 as a way to induce employees to work longer. Prior to 1998, an FRS participant had no options – they retired and received a monthly pension check. End of story! FRS further expanded the range of retirement options in 2002 with the addition of the FRS Investment Plan. This change was significant! Now a FRS Participant has several different retirement options to choose from. There is still the basic Pension, there is a combination Pension and the DROP (Deferred Retirement Option Program), and after 2002, a third alternative whereby you can participate in the FRS Investment Plan, and take control of how your retirement money is invested. You also have a fourth option, which is to “roll” the current value of your retirement into a self-directed IRA account at retirement.
Each choice has its own special characteristics.
A rollover allows you take control of your money, and the benefit becomes YOUR money, and it instantly increases your net worth by the total amount. (For a participant making $50,000 with 30 years of service, this will average somewhere around $350,000). The rollover feature of the Investment Plan may make the DROP somewhat less attractive for many participants.
With the Investment Plan, employees can opt out of the pension plan at retirement, and transfer the entire value of their retirement benefit into the Investment Plan. This is known as a “lump sum rollover”. You then choose from a selection of investment options in order to manage your own retirement plan, and the value of the plan changes with the values of the investments made. The current value of the lump sum amount of your retirement plan is the lump sum amount of money needed today, that would be put aside to pay you your pension for the rest of your expected life (IRS actuary table put that at around age 85, give or take a few years depending on your current age) . That amount that could be substantial!!! The income derived from the Investment Plan can be affected by the value of your account. If the value goes up, you could get an increased income (and vice versa).More importantly, the value of your account is your money, and would goes directly to your spouse or children, or whomever you wish it to go to upon your death. This is attractive to many participants. With the Pension plan, any value goes back to FRS, and not to your family, and does not have any impact on your net worth!
So, should I DROP???? MAYBE! Contrary to popular belief, the DROP is not the end-all for everybody. There are many important factors. Do you plan to promote soon or are you at the highest pay scale you plan to achieve? If you are promoting soon, you may want to wait to lock in that higher pension amount because of the increase in your base salary. Will you want to leave the job in 5 years? Some people are not ready to make this commitment, or change in your life circumstances could change that decision. Once you choose to enter the DROP program, you will not be able to work more than 5 years longer, so you should be mentally prepared to retire. One of the most important is whether your benefits will grow more in the drop account, or in your pension account. For civilian participants, it is likely your benefit would grow by a higher amount in the DROP than in the pension, but the benefit could grow significantly more in the Investment Plan. It might also be important for participants to leave the remainder to their spouse or children at death, and not to the state. Therefore, itt might be better if you don’t DROP!
By not dropping you have several potential benefits;
* You may work as long as you like, and not the maximum 60 months.
* You may decide at the time of retirement to take a pension, a pension and lump sum, or a lump sum of the entire value. It is fairly easy to select a combination pension and lump sum that would be no worse than the DROP benefit, and could be substantially better!
* You will still be eligible to gain retirement benefits from pay raises and promotions!
* You will gain 1.6% per year of service until you max out at 100%. The Lump Sum value of higher pay at 60% is better than the Lump Sum value of 48% of your AFC five years ago!
* You will still be eligible for Active Duty Benefits that you lose in the DROP
* You continue to accrue credit for the Health Subsidy account that you lose in the DROP
Before the Lump Sum Rollover option was available, the DROP was very attractive. It was the only way to get a pension AND a lump sum.
Examples; Assuming an AFC of $50,000.
Example 1 – DROP at 30 years.
You enter the DROP at 30 years of service, and continue to work for the maximum 5 years in DROP. The benefit is now $24,000 in pension income (locked in at the time of entering DROP based on AFC of years 20 thru 25), plus a DROP amount of approximately $148,000.
Example 2 – Don’t DROP, work 5 more years.
You are a civilian FRS employee with 30 years of service, making an average final compensation of $50,000, and are 62 years old, you would be eligible for a pension benefit of 48% (1.6% per year of service) or $24,000 per year. The Lump Sum value of your retirement will be close to $350,000. If You choose NOT to DROP, and just continue to work another 5 years to age 67, the benefit would then be 58.8% of the average final compensation over the next 5 years,(which will most certainly be a higher AFC due to pay increases and promotions). If we assume pay goes up by at only 3% per year, the pension benefit would jump to approximately $32,000 per year (58.9% of AFC of $54,000). That represents a starting benefit approximately 33% higher than the benefit of retiring at 30 years of service. More importantly, your Lump Sum value will be closer to $440,000.
An important aspect of Example 2 is simple. You will make twice as much income working for those extra 5 years than you would derive from your pension. At the end of the 5 years, you will have either a 33% bigger pension, or a lump sum rollover of about 33% more, and five years less to need it! Not dropping could significantly improve your standard of living.
Example 3 – Work as long as you wish.
Work as long as you wish. At retirement Rollover the entire amount into an IRA, and have the freedom to choose more or less income, increase your net worth by the entire amount. Take out lump sums as you need, or desire. Protect your family at no additional cost or loss of benefit by giving them the balance at your death. Have the freedom to take control of your future! The Pension is a very safe, low risk and low return option. By assuming a comfortable amount of risk for you, you might substantially increase you standard of living in retirement.
Obviously, there is not an option that is good for everyone. While the pension is a good pension, and the drop may have some advantages for some people, it is essential that you sit down with someone knowledgeable about the options, and figure out which one is best for you. Our experience is that the FRS web site, while comprehensive, may not be the most user friendly to navigate. At FRSOptions, we are well versed in helping you navigate the site for your best advantage.