Retirement Question

[mattixc]

Scenario:
My wife is putting 7% into her school retirement. Her school puts in 10%. The balance there is $138K. She cant' touch this money until she's 65. She's currently 44. She has a 403b at Vanguard that she rolled over from another brokerage. She has about $37K in that. She is not allowed to convert the 403b to a Roth as she still works for the same district. She also has a small roth of $1K or so. The state is requiring her to make pick a final percentage for her school retirement which she can't change. She doesn't want to have to work until she's 65 and now wants to start putting more money away.

Question:

• Should she lower the amount she's putting in her state retirement to the minimum and add that plus more to one of the other investment accounts?
• Should she fund the 403b which she would probably never be able to convert to a Roth or just start funding the Roth even though it is so low?

[catccc]

I find it hard to believe she can't change her contribution % election at some point.  Is it set for the year?  Or is it really final, no changes for the rest of her career with the state?

I don't know much about 403Bs and how they differ from 401Ks.  But I assume they operate similarly, and she gets an immediate tax benefit for contributions to her 403B, but probably will not for these "other" investment accounts.  So I would add more to the 403B, not less.
I personally like to max out all of my retirement options, so can she do both the 403B and the Roth?  Also, why would she never be able to convert the 403B?  You stated that she currently cannot because she works for the same district.  How about once she is out?  How about once she stops working?  The size of the Roth shouldn't matter in terms of whether or not you decide to contribute more.  There's no benefit to piling investments together, really.  I could have 1M invested in VTSAX in one account, or $100K in VTSAX in each of 10 accounts, the results would be the same.  It makes no difference, unless there is some sort of fee/expense on each account.  If the 403B is really like the 401K, getting some $ into the Roth now is a good way to bridge the gap while you fill that roth pipeline, assuming you can convert portions of the 403B to a Roth at the point that she separates from her employer.

[magnuminator]

Is the state retirement plan that you are referring to TRS 3?

[MDM]

When you say "school retirement," is that a "defined benefit" plan?  I.e., a pension?  Assuming so, we still need more information on that pension.  E.g., how does the percentage she contributes now affect the monthly amount she will receive at age 65?  Does she have to work to 65 to get it?  If she doesn't have to work to 65, by how much does retiring earlier change the pension?

Just guessing but it may reduce to a choice between the guaranteed return on the pension contributions vs. the speculative return on the 403b, Roth, etc.  Also need to understand your tax bracket now and what you expect it to be in retirement.  Maybe more but that should be enough to get started....

[mattixc]

Sorry, I wish I knew more about this. Here is a link the FAQs for her retirement. It seems it's a hybrid of pension and self-directed. The 10% contributed by the school district is the pension part and the 7% she puts in is the self-directed part. She can't touch any of it unless she's over 65 period. All, yes, she has to decide her percentage by the end of the year and has to stick to that for the rest of her career.

http://www.icmarc.org/washingtonstate/plan-3-overview/faqs.html

[MDM]

Appears the answer to magnuminator's question is "yes" - perhaps that person will be able to supply more details.

At a quick glance, it appears to be a nice program.  E.g.,
  - inflation-adjusted pension
  - 457 plan (deferred compensation) available
  - probably more but it really was a quick glance.

Also one FAQ strongly implies money is touchable prior to age 65:

If I start my defined benefit payment early, will I get the full amount when I reach 65?

No. If you start your defined benefit payment early, you will receive a reduced payment for your lifetime. For more information about early retirement, see the DRS website.

I highly recommend that you and your wife spend the hours (even several days) needed to learn all about the options.  Can't think of a higher likely ROI for that amount of time - the choices you make could have a very large impact on retirement cash flow. 

If it's really not something you want to learn on your own, then finding a fee-only CFP firm familiar with the plan and paying the $1,500 or so they may charge to analyze your situation could also be $1,500 very well spent.

[magnuminator]

Looks like it is TRS 3, and yes, it's a hybrid plan.  There are two components (in addition to the 403b/457 options that may be available):

Defined Contribution: This portion of the TRS 3 plan is purely employee-funded.  If your wife's employer is contributing some money, it's going to a different plan (or you may be thinking of the Defined Benefit component below).  As you noted, an employee has a number of contribution rate options.  The minimum (mandatory) contribution is 5% of pay and the maximum is 15%.  There are also some options in between with contribution rates that increase with age.  There are two high-level investment options: self-directed (with a range of mutual funds available) or you can turn over management of your investments to the State Investment Board.  The SIB has a pretty good track record and if you choose that route you can buy an annuity with some/all of your TRS 3 defined contribution money that has some pretty generous terms (unlike an insurance annuity it is based on expected long-term investment returns and there isn't a profit margin built in for the plan).  Whatever your wife has chosen, don't worry too much about it because you can't change contribution rates unless you change employment (e.g., take a job with a different school district).  I can't recall whether Plan 3 allows you to change from self-directed to Total Asset Portfolio (SIB-managed) investment midstream.  If you're interested I'd be happy to look or you can ask the SIB.

Defined Benefit: Unlike the DC portion of the plan, this is 100% employer funded.  The basic benefit formula is 1% of your final salary (highest average salary over 60 consecutive months of eligible employment, actually) for each year of service.  So 15 years means 15% of your salary as a benefit.  Normally, you need to wait until age 65 to collect this benefit, however, if you have 20+ years of service you can start collecting it as early as age 55, though the benefit is reduced (how much depends on a few different factors).  Also (and this is pretty nice if your wife has or will have quite a bit of service) if you complete 20 years of eligible service and defer collection of your defined benefit, it grows by 3% per year that you wait.  This isn't additive, though.  So, for example, if you separate from service after 20 years at age 50 and wait 15 years to collect it, your base benefit would be 20% of average final salary (typically meaning the last 5 years of work) in the system multiplied by 1.45 (1 + 15 years x 3%/year).  Basically, it's inflation protection or maybe a bit more.  Of course you don't get to collect it in the meantime but it can be a good way to preserve your benefit value while avoiding reductions for early retirement.

There's more to the plan, but those are the basics.  Please shout out if you have any questions.  If you are willing to share how many years of TRS 3 service credit your wife has (if she hasn't just started) I'm happy to help you look at some ideas for  building the pension into your retirement plan.  A word of caution, though: I can't give you official estimates or answers about the retirement system.  You'll need to get those from the Department of Retirement Systems.  Fortunately, they're pretty helpful and generally know their stuff well.

Edits: I'm sorry, I missed part of the information that you supplied later.  I apologize for being a sloppy reader!  It sounds like your wife is a new member.  That means that she should still be able to choose between the TAP (WSIB-managed) investment option or self-directed investment.  You should consider that carefully, thought there isn't necessarily a wrong answer.  Also, as I noted above, the contribution requirement isn't necessarily for her career, but if she stays with the same district continuously until retirement, the effect may be the same.  Finally - and this is a pretty big deal - the defined contribution moneys can't be distributed (withdrawn) while your wife is working in the system but she DOES NOT need to wait until age 65 to access those monies.  She just needs to separate.  Also, there can be tax considerations for earlier withdrawal.  That can include a 10% penalty if you are under age 59.5 *and* separated from service before age 50.  Again, DRS and ICMARC are the authorities on this!

[mattixc]

Magnuminator,

Thank you so much for helping. My wife has 18.77 years as Service Credit. She won't be leaving the district she works for as she loves it too much. Her concern is that the state is requiring her to set a percentage for her contribution and she won't be able to change it as long as she is still with this district. She doesn't want to have any penalties and wants to take advantage of getting her full Defined Benefit monies which means she won't touch that money for 21 more years (age 65). She doesn't want to work 21 more years. As for her Defined Contribution (TRS 3), it sounds like, if I read your post correctly, she can start withdrawing that as early as 59.5 years old without a penalty. Please confirm. The problem with that account is trying to pick the best funds to invest in. Her biggest question is since she has to decide on a percentage amount to contribute to the Defined Contribution (TRS 3) and she's currently at 7% and doesn't want to work forever (just until the kids are out of college 16 more yrs), what is the best choice for her in terms of where to put her money? She also wants to start putting more money away. I did an Estimate of Benefits on the DRS site with her retiring at age 60 (16 more yrs) and have attached a screenshot of the estimate.

[magnuminator]

TRS 3 Defined Benefit information:
First, the State Supreme Court ruled on the gain sharing case.  That benefit was repealed, so if your wife is willing to forgo the ability to work part-time (for a public employer) until age 65, she can collect her defined benefit under the "2008 ERRF" (shown on the screenshot).  At age 57 (with 30 years of service) she would be eligible for 86% of her benefit.  At age 60 (as your screenshot shows) she can get 95% of her benefit.  And she could also collect 98% at age 61 or 100% at age 62.  (Just to be really clear, I mean 86%-100% of her benefit, not that percentage of her salary...so for example 86% of 30% of her pay, i.e. 25.8% of her salary). So unless she wants to, say, substitute teach, there's no reason for her to delay taking that monthly check any later than age 62.  And if she retires at 57 with 30 years of service, her benefit will grow by 3% per year (again, 3% of 30% of pay, not 3% of pay) until she collects it at age, age 62 or whenever.  The online calculator should incorporate all of these factors, so play around a little to see how the benefit estimate changes.  (Repeated caveat: it's just an estimate.)

TRS 3 Defined Contribution information:
Unfortunately, I can't help with the contribution rates for defined compensation.  Your wife appears to be enrolled in Option D, which is a flat 7% of pay at any age and unless she changes employers that's her rate.   I believe that there was an attempt to allow TRS 3 members to change rate options, but the IRS clamped down on that.  I think the IRS was concerned about people reducing savings rates in bad times but it also precludes people from saving more.  Not much to be done there, I'm afraid.  If you want advice on how to invest it, you'll find a lot of opinions in the investors' forums.  You could also post there for opinions on these funds:
http://www.icmarc.org/washingtonstate/investments/fund-descriptions.html

You do have the defined benefit as a safety net of sorts but only you and your wife can decide how much risk you're comfortable accepting in the hope of getting higher returns.

As for collecting money from the defined contribution (DC) account, that is permitted at any age upon separation from covered employment.  That means she has to quit her job and not immediately take another state or local government job.  If she chooses to access it, there are a range of options including rollover into an IRA or purchasing an annuity. (Correction to my previous statement: I believe the TAP annuity can be purchased even if your wife self-directs her investments - please check into this - there is a calculator on the web site and the terms are very nice...currently the payment is calculated using a 7.8% rate of return assumption.) 

The income is taxable in any case unless you do a rollover to a tax-deferred accoutn, but you won't pay the additional 10% income tax penalty on disbursements if your wife: (a) doesn't separate (quit) from work with an eligible employer until the year *after* she turns 55; or (b) doesn't actually withdraw the money until after 59 1/2.  I believe that annuities or level withdrawals (of the type that 401k owners use to avoid this penalty, I think...I am not very familiar with private sector plans) are also exempt from penalty.  Again, check with DRS and/or ICMARC and/or an account/lawyer before relying on this.  Laws change.

Some other, smaller things to consider:
(1) While this generally isn't as important as it was before the health care exchanges started popping up, your wife will have the option to buy health coverage through the state employees' insurance pool.  The costs aren't low, but the coverage is good. Ask DRS or the state Health Care Authority for more information if you are interested.  There are limits on when you can opt in, so if this matters to you I again encourage you to check with DRS/HCA.  DRS has a 1-800 number.  I can dig it up if you would like me to.

(2) TRS 3 members, like other members of PERS/TRS/SERS plans, have the option at the time of retirement (meaning applying to receive their defined benefit) of purchasing up to 5 years of additional service credit.  Unfortunately, this credit can't in turn be used to qualify for retirement or other benefits.  It's effectively another option to purchase a supplemental annuity from the retirement plan.  Like the TAP annuity, you end up with an extra monthly check, COLAs, etc.  Unlike the TAP Annuity, it is linked directly to (is a part of) your defined benefit, so you can't take it before you retire officially.  It may or may not be of interest to you.  If it is, look into it when your wife is closer to retirement.


Do you and your wife have a particular timeframe in mind for retiring (stopping work, I mean)?

[mattixc]

Thanks Magnuminator. I understood most of what you said. Sorry, some of this stuff is over my head. Are you positive that she can withdraw from her TRS 3 Defined Contribution plan at any age as long as she no longer works for the district? As for the percentage. The state is allowing all teachers to make one last change to their percentage amount but it has to be done before the end of the year and can't be changed unless she changes the district she works for. That is why I started this thread and the question. She wants to know if it is in her best interest to increase her percentage with TRS 3 Defined Contribution plan (maximum is 15%), decrease it to the minimum 5% and instead start funding her Roth? I hope my question is clear. I'm wondering if a phone conversation between us would work better? Thanks again for your help. By the way my wife and I are planning on working for 14 more years. She will be 59 by then.

[magnuminator]

Thanks for clearing up the matter of the one-time window to change, I didn't understand that properly.  I would say that's good news for you (and other members) but whether or not you want to take advantage of that really depends on your goals and your personal financial situation.  If you are already saving a very large percentage of your income for retirement, this could be a great opportunity to increase your tax-priviliged savings.  Being able to save up to the federal limit for a 403b *and* an additional 10% or 15% of your salary before taxes is pretty nice...provided that you don't need the money now!  I'd think about this carefully, as you can adjust your 403b or Roth contributions from year to year as needed, while the TRS 3 rate is (as you know) not easy to change.

I am an inactive PERS 2 member, but if I could wave a magic wand and change things up, I'd have opted for PERS 3 and the 15% contribution rate.  That's just a lot of money that you can save before taxes and the annuities that Plan 3 members can purchase look really good to me.  But that's what I say with the benefit of hindsight.  It's a difficult call.  Perhaps you could submit a case study to the MMM forum to identify how much you need/want to save for retirement vs need for your current expenses.

Good news: yes, your wife can access her TRS 3 Defined Contribution funds when she separates from covered employment, without waiting to reach 65.  And she doesn't need to start collecting her Defined Benefit to do this.  See the TRS 3 Member Handbook at: http://www.drs.wa.gov/member/handbooks/trs/plan-3/t3hbk.pdf


Or see item 3 under the TRS 3 FAQ at DRS (http://www.drs.wa.gov/retirement-planning/faq/trs3.htm#withdrawplan3):

3. When can I withdraw my defined contribution funds from my Plan 3 account?

    Once you're no longer working in a position that is covered by TRS, you can withdraw your contributions at any time. Federal income taxes and penalties may apply, so you may want to check with a tax advisor before requesting a withdrawal.

    You can also leave your contributions in your Plan 3 account, where your account value will continue to be based on the performance of your investments. Learn more about your options by calling ICMA-RC at 1-888-711-8773 or reading our booklet Plan 3 Request for Payment of Defined Contribution Funds, available online or from your payroll or personnel officer.

For tax penalty information, please look at page 16 (under "Additional 10 percent tax", specifically the first bullet point which gives the exemption from the 10% penalty after age 55) of this document on the website of the third party administrator that handles Plan 3 DC accounts for DRS: http://www.icmarc.org/prebuilt/apps/downloadDoc.asp

I'm sorry for my slow response...I had hoped to respond earlier but this weekend got a little out of hand.  If you'd still like to talk over the phone, I'm happy to do that.  I'll send you a personal message with my phone number and some times that I might be able to talk.  Please send your number also so that I'll know it's you and not a marketer calling.

In any case, though, please remember that I'm not officially affiliated with the state pension plans and I am not a financial planner or a tax attorney.  I highly recommend calling DRS to confirm anything facts that are important to you.  The Department's toll-free number is 800.547.6657 and they are open 8-5, Monday-Friday.  You can also use the contact form at this address: http://www.drs.wa.gov/administration/contact.htm