Choosing a Retirement Plan Option

[kerprof]

I am 45 year old and plan to be in my current faculty position for at least 5 years.  While I like my job and the benefits that the city offer, my family and I do not like harsh cold weather... So, there is a possibility I might considering leaving my current position after 5 years if I get a better options compared to where I am currently at...

With respect to retirement benefits, I have the option to go with Alternative Retirement Plan vs. Teachers Retirement System Pension Plan in my state.

In my state's Teachers Retirement System Pension Plan, I have three options - defined benefit (SRS-DB) option, defined contribution (SRS-DC) option and
an hybrid-combined-defined-benefit and contribution (SRS-Hyb) option.

So I am in a position to make a choice among 4 options.... ARP vs SRS-DC vs SRS-Hyb vs SRS-DB

For ARP -

Advantages are easy portability, 100% university vesting is available even after 1 year of service, better known investment mutual funds from private providers

Disadvantages are less university matching contribution (University contributes only 65% of my contribution), investment risks, possible additional admin fees, no access to benefits such as healthcare, disability, survivor, possible additional admin fees (I am not exactly sure what that mean)

For SRS-DC -
Advantages are easy portability to Rollover IRA etc.,, possibly less additional admin fees (I am not exactly sure what that mean)

Disadvantages are less university matching contribution (University contributes only 65% of my contribution), investment risks,  no access to benefits
such as healthcare, disability, and survivor benefits,  100% university vesting is available  only after 5 year of service

For SRS-DB -
Advantages are university matches 100% of my contribution,  possibly less additional admin fees compared to ARP (I am not exactly sure what that mean), defined benefit - no investment risk, Access to benefits such as healthcare (after 15 years of service), disability (after 10 years of service), and survivor benefits (after 1.5 years of service), COLA adjustments to defined benefit

Disadvantages are need to be in service for at least 5 years to access benefits, Formula is used to arrive at the yearly/monthly
payout (2.2% of the final 5 years average salary times number of years of service)

For SRS-Hyb (Combined - 50% DC + %50% DB)

Advantages are University matches 100% of my contribution,  possibly less additional admin fees (I am not exactly sure what that mean),
With respect to DB portion - no investment risk, Access to benefits such as healthcare (after 15 years of service), disability (after 10 years of service), and survivor benefits (after 1.5 years of service),
With respect to DC portion - roll over portability options...

Disadvantages are need to be in service for at least 5 years to access benefits for DB-portion, No COLA adjustments to defined benefit portion,
With respect to DB portion - Formula is used to arrive at the yearly payout (1% of the final 5 years average salary times number of years of service)


Please advise what would be a right option that I can choose...

[spork]

Possibly useful: https://taxfoundation.org/state-public-pension-plan-funding-coronavirus/.

State university systems that I'm familiar with have sample scenarios for the different benefit options, and this information is available through the university's HR website or the website of the appropriate state government office.

[clean]

The Defined Benefit plans are the 'traditional pension plans'. They will pay some formula (usually based on the number of years of service times the highest 1,3 or 5 years' salary.  They are often an obligation of the state, so if the state has pension plan funding problems, the guarantee may not be worth much. Illinois has a notoriously bad plan and IF any state in the union is likely to declare bankruptcy (when it is allowed) they are near the top of the list. Until then, the pension should be considered more a 'promise' than a guarantee. 

Given that you are not likely to stay here to reach full retirement, then consider the real value of this promise.  You are 45.  Think back to when you were just out of high school (almost 20 years ago).  What was the price of a Big Mac Meal (or happy meal or something like that).  What is the price today?  Now consider that you work for 5 years and barely qualify for the pension at 11% of your 5 year average salary.  To make this easy for me, Im going to assume you make $100K a year.  Therefore your retirement benefit will be 11K a year (not even 1 grand a month).  That is the DEFINED BENEFIT. It wont get any bigger.  NOW imagine that it is 20 years into the future.  What will $11K a year buy you when you are 70?

Especially since you are not likely to stay here long term, any of the Defined Benefit plans are not likely to serve you well because you will not have much in them, and you will not collect for a good deal of time (until you retire).

That leaves you with the Defined Contribution Plans.  IF you have access to a TIAA/CREF provider, or VALIC you should probably have little issues with portability.

Once you decide to go with the DC plan, the next question (not asked) is to go with the ROTH versions.  Pay the taxes on your income now.  Especially after all of the COVID19 relief bills that were recently passed, do you think that tax rates will go DOWN when you retire?  I dont!
Pay the taxes now and the withdrawals will be tax free.  The withdrawals of the employer's contributions will still be taxed because those funds are not going to be contributed into a Roth type account.

Good luck on your decisions.

(For what it is worth, I am in the DC plan, fully funding the Roth version since it was made available by my employer. I  hope to be ABLE if not willing to retire in another 5 years, at age 60 or 61.)

[kerprof]

Possibly useful: https://taxfoundation.org/state-public-pension-plan-funding-coronavirus/.

State university systems that I'm familiar with have sample scenarios for the different benefit options, and this information is available through the university's HR website or the website of the appropriate state government office.

Thanks Spork.. for the  useful link... Looks like my state's pension plan is not in that bad shape..

[kerprof]

The Defined Benefit plans are the 'traditional pension plans'. They will pay some formula (usually based on the number of years of service times the highest 1,3 or 5 years' salary.  They are often an obligation of the state, so if the state has pension plan funding problems, the guarantee may not be worth much. Illinois has a notoriously bad plan and IF any state in the union is likely to declare bankruptcy (when it is allowed) they are near the top of the list. Until then, the pension should be considered more a 'promise' than a guarantee. 

Given that you are not likely to stay here to reach full retirement, then consider the real value of this promise.  You are 45.  Think back to when you were just out of high school (almost 20 years ago).  What was the price of a Big Mac Meal (or happy meal or something like that).  What is the price today?  Now consider that you work for 5 years and barely qualify for the pension at 11% of your 5 year average salary.  To make this easy for me, Im going to assume you make $100K a year.  Therefore your retirement benefit will be 11K a year (not even 1 grand a month).  That is the DEFINED BENEFIT. It wont get any bigger.  NOW imagine that it is 20 years into the future.  What will $11K a year buy you when you are 70?

Especially since you are not likely to stay here long term, any of the Defined Benefit plans are not likely to serve you well because you will not have much in them, and you will not collect for a good deal of time (until you retire).

That leaves you with the Defined Contribution Plans.  IF you have access to a TIAA/CREF provider, or VALIC you should probably have little issues with portability.

Once you decide to go with the DC plan, the next question (not asked) is to go with the ROTH versions.  Pay the taxes on your income now.  Especially after all of the COVID19 relief bills that were recently passed, do you think that tax rates will go DOWN when you retire?  I dont!
Pay the taxes now and the withdrawals will be tax free.  The withdrawals of the employer's contributions will still be taxed because those funds are not going to be contributed into a Roth type account.

Good luck on your decisions.

(For what it is worth, I am in the DC plan, fully funding the Roth version since it was made available by my employer. I  hope to be ABLE if not willing to retire in another 5 years, at age 60 or 61.)

Thanks clean for your thoughts... I was leaning towards SRS-Hyb (Combined - DC + DB) option...

#1. I am wondering why you prefer State Retirement System Defined Contribution (SRS-DC) and not Alternate Retirement Plan (ARP)... Because both have similar matching contribution limit (65% of my contribution) from the University...

With ARP while I have options to go with Fidelity, and TIAA-CREF. However, for the mutual fund choices I am interested
in the SRS-DC, the annual fee is very low (for example 0.05% to 0.07%). I need to check Fidelity and TIAA-CREF and see what are their fund choices and what is the administration fees. Also in SRS-DC, university vesting will be 100% only after 5 years, whereas in ARP it is 100% after the first year. This should not be a big deal as my intention is to stay in the current faculty position for at least 5 years.

One advantage I have with DC option is, there is an option to move to SRS-DB or SRS-Hyb (Combined DC+ DB Option) at the end of 5 year mark. Whereas, if I go with ARP,  I cannot change it to any other options...

Both SRS-DC and ARP are portable...

#2. I am also wondering what are your thoughts on SRS-Hyb (Combined - DC + DB) option

In SRS-Hyb option, 45% of total contributions is invested in DC and the rest -55% in DB option. However, in this option, for the amount invested in DB, the defined benfits payout are only 45% of the defined benefit in DB option (ie., 1%  compared to 2.2% (in DB) of the final 5 years average salary times number of years...).  May be this difference is to pay for other benefits - healthcare, disability and survivor benefits...

Advantages of SRS-Hyb (Combined - DC + DB) option over SRS-DC option are

1. University matches 100% of my contribution compared to 65% of my contribution in DC option
2. Access to benefits such as healthcare (after 15 years of service), disability (after 10 years of service), and survivor benefits (after 1.5 years of service)... [However, I cannot enjoy theses  services if I decide to leave after 5 years].
3. Investment risks are balanced with the guaranteed payment of 1%   of the final 5 years average salary times number of years
   of service at the age of 60 or after, and the returns from 45% of the total contributions invested similar to DC...
4. If I leave (after 5 years of service), there is also option of rolling over the defined benefit portion, where the withdrawal value is  the total present value of future benefits

Considering all this, please advise would DC is still the better option compared to ARP and SRS-Hybrid (DC + DB combined option)

 

[Vkw10]

Since you're already thinking about moving, the ARP is probably your best option. The SRS plans all have five year vesting periods. If you get a great opportunity and leave after four years, the employer's contributions stay with the plan and you just get what you put in. Retiree healthcare is a great benefit if you stay in the state system until you retire. You're not planning to stay, so retiree health insurance isn't relevant to you. You can buy disability insurance, preferably "own occupation" disability, fairly cheaply. If you have appropriate life insurance, survivor's benefits aren't necessary.

Clean mentioned the gradual loss of purchasing power of having a few years in defined benefit system. He's right. I have some time in a defined benefit system from early in my career. My monthly benefit at 65 will be $1030. The amount is based on my early career salary and years of service. If I had stayed, my monthly benefit would have been at least $4500 by now, plus I'd qualify for subsidized health insurance. Defined benefit formulas reward staying in the same plan for decades, as both salary increases and years of service help the monthly pension benefit grow.

Since you're already contemplating moving on, the ARP is probably best for you.

[kerprof]

Since you're already thinking about moving, the ARP is probably your best option. The SRS plans all have five year vesting periods. If you get a great opportunity and leave after four years, the employer's contributions stay with the plan and you just get what you put in. Retiree healthcare is a great benefit if you stay in the state system until you retire. You're not planning to stay, so retiree health insurance isn't relevant to you. You can buy disability insurance, preferably "own occupation" disability, fairly cheaply. If you have appropriate life insurance, survivor's benefits aren't necessary.

Clean mentioned the gradual loss of purchasing power of having a few years in defined benefit system. He's right. I have some time in a defined benefit system from early in my career. My monthly benefit at 65 will be $1030. The amount is based on my early career salary and years of service. If I had stayed, my monthly benefit would have been at least $4500 by now, plus I'd qualify for subsidized health insurance. Defined benefit formulas reward staying in the same plan for decades, as both salary increases and years of service help the monthly pension benefit grow.

Since you're already contemplating moving on, the ARP is probably best for you.

Thanks Vkw10 for sharing your suggestions. I just want to emphasize that I  do not have any inclination to leave my current institution in next 5 years, unless the university decide to terminate me before 5 years of service completion.

[mamselle]

But, you said...

So, there is a possibility I might considering leaving my current position after 5 years if I get a better options compared to where I am currently at...

...

....so I was confused by your previous statement, too.

M.

[clean]

I might considering leaving my current position after 5 years if I get a better options compared to where I am currently at...

You need to have a plan about how long you are going to stay. IF you are sure you are going to leave well before retirement, then ANY DB plan is going to fall far behind.

IF you are planning to stay, then there may be a place to argue about the DB portions.  IF you stay until retirement, then the initial benefits will be pretty much at the current price level (assuming that your wages keep up with inflation, and THAT is an assumption that may be a stretch)***

Remember that even if you pick one of the DC plans, at retirement, you can still take the money you have saved and buy an annuity or set up a bond ladder where you buy bonds of increasing maturities so that some percentage matures every few years (providing a guaranteed dollar value benefit).  There are certainly insurance products that can protect against longevity risk! 

As Im not sure of the specific details of your plans, IF you plan to be there more than 5 years, so that you vest with either plan, then pick either the ARP or SRS DC plans that looks like it will offer the most of what you seek.

Again, though not mentioned again, go with the ROTH version if offered. 

***   I started my career in SC.  I worked with several people that had 20 or more years of service in the state system. However, their salaries were well below market, but even IF they had remained marketable, they were trapped there until they were able to qualify for the retirement benefits.  Once they met the minimum age/years of service requirements, there was a great incentive to find another job anywhere to get the raise they would get and then still collect the retirement benefits!  The bottom line, then, is that the DB plan in particular can be a bit of a trap holding you in place! 

[spork]

This thread reminded me of the job search/retirement planning thread I started on the old fora. Here it is:

https://www.chronicle.com/forums/index.php/topic,259215.0.html.

Something that hasn't really been mentioned yet: financial outlook of the OP's current employer over the next twenty-odd years, and the chances of moving to a tenure-track position at another university with a better financial outlook five or more years from now (I'm assuming the OP is thinking primarily about going on the market the year he/she applies for tenure).

In the thread I linked to, the two scenarios as they pertained to just me were basically financially equivalent in terms of salary, retirement benefits, and cost of living. But guess what? Even though New Place is located in an area that is regularly hit by hurricanes, it has close to 20,000 students and is a public university. It ain't going anywhere. Current Place has far fewer students, is private, and almost entirely tuition dependent. And now we have Covid-19.

Anyway, one thing I learned when contemplating the two options is that defined benefit plans are less remunerative than defined contribution plans unless one is in the same job/pension system for 20 or more years (the point that clean makes). You'll be at retirement age before reaching the break-even point. Also saving as much of your current income as possible now is going to pay the biggest dividends later.

Please note that it's too early in the morning for me to go through the details of the ARP/hybrid options.

[nonsensical]

One thing that stands out to me is that some universities have been reducing or eliminating their contributions to employee retirement accounts. That might be something to consider when looking through these options. I personally might be a bit hesitant to count on a plan that currently includes an X% match to always continue to include that same level of matching going forward.

[polly_mer]

The employer match is often one of the first things to get cut during a financial crunch.

I had no trouble rolling 403(b) plans into different retirement accounts when I've changed employers.

If you're even thinking of changing employers, then you definitely want portable that vests immediately.

[onthefringe]

One thing I think you should stop considering is that the DB plans get "full match" while the DCs don't. In the DB plans all of your money and all of your match are going to the plan, with the hopes that they support the promised benefits of all participants.

Run the numbers for several scenarios. When I made this choice (granted almost 20 years ago), in most scenarios the DC plan came out good enough for me to have the retirement I think I want, and had the advantages of being vested early and portable. The big disadvantage I saw was not having the health benefits that were then associated with the DB plan. So I went DC. Since that time, the DB plan I would be on (which is listed as a "healthy" plan on most lists) has changed how it invests in health care AND has changed how it calculated payouts to be less advantageous for participants. Most calculations I've done since have me doing better than same stage peers who took the DB route. Granted, that may change over the next few years, but luckily I am still more than 10 years out from retirement.

[arcturus]

I have never had the option of a defined benefit plan (all of my employers only offered defined contribution plans), so I am a little confused by the parameters.  Are you required to contribute a specified percentage of your salary (which the university "matches")? If so, how much? If not, how do they get anyone to contribute any of their salary if the end result is the same guaranteed benefit?

That said, it sounds like you would be "guaranteed" 44% of your (previous five year average) salary if you worked there for 20 years (until age 65). [Note that the quotes around guaranteed is based on popular press articles regarding the demise of pension funds in both the private and public sectors.] Is that enough to live on when you retire? Are you also contributing to social security, or is this an institution that claims its pension fund means that employees are exempt from social security taxes?

One other calculation to run is to take the amount that you are paying into the DB system each year, assume 7% growth, and see the total after 20 years [don't forget to include the institution's 65% match for the ARP when making this calculation].  Will that be sufficient to live on when you retire? While 7% growth is optimistic at the moment, it is the value many use to calculate estimated values of portfolios at the time of retirement.  Also factor in that you can contribute more than this amount (up to $19.5k now; up to $26k when over 50).  Even if the employer match maxes out well below these numbers, this is much more than you can put into an IRA. If you have Roth options, I agree with clean that those are preferred over standard 403(b) accounts.

For the record, my own preference would be the ARP. While I have never had the option to choose, so this is very theoretical to me, I would be concerned about the viability of the state pension system, even in states with "good" records.  There is also no guarantee in the financial markets, but that seems a lower risk in the long term than a system that could be overhauled due to a change in political will. At least with my own retirement plans, I have a choice of mutual funds and so have some control over the investment options for my nest egg.  I will also note that exponential growth when applied to money (not COVID-19) is a very nice thing.  A twenty year time horizon leaves plenty of time for modest contributions to turn into significant wealth.

[Vkw10]

Defined benefit plans have mandatory contribution amounts for both employee and employer. Sometimes both contribute the same percentage. Places that offer a choice of defined contribution and defined benefit typically require the employee to contribute the same percentage no matter which plan is chosen, but may have different employer contribution rates.