This article is part of a series dealing with common misconceptions about federal benefits and retirement. These articles are written by John Grobe and Ehren Clovis.
Myth-conception: The amount that you have contributed to your retirement plan (FERS or CSRS) determines how much annuity you will receive and how long you will receive it.
Reality: Your FERS or CSRS annuity will continue for the rest of your life, and the amount of your annuity is determined by your high-3 average salary and your years of service. The amount that you contributed to FERS or CSRS doesn’t matter.
Yes, it’s a little hard to believe. “Too good to be true,” as they say. But it’s true: the amount of your contributions to FERS or CSRS has nothing to do with either the amount of your annuity from those sources or how long that annuity will last.
The amount of your annuity is a determined by applying your high-3 average salary and your years of service to the appropriate annuity formula. Most FERS employees will receive an annuity that is 1% (or 1.1%) of their high-3 average salary for each year of creditable FERS service. For example:
0.01 X high-3 average salary X years of service = Annual FERS annuity
- X $79,326 X 31 = $24,591.06
As you can see, the amount of your contributions to FERS literally doesn’t come into the equation.
Furthermore, your annuity will be paid to you for the rest of your life. Then, if you elected a survivor benefit for your spouse, your surviving spouse will likely receive a survivor annuity for the rest of his or her life. (The surviving spouse’s benefit may be cut short, though, if he or she remarries before age 55.)
I’m a good example of how this plays out: Within the first 9 months of my retirement, I had already received annuity equal to the amount of my career retirement contributions. Even though I’ve already received an amount equal to my contributions, my annuity will continue for the rest of my life, which could be another 20-30 years.
There are a couple aspects of this that I want to comment on:
- The amount of your contributions does play a role in the income taxes that you must pay on your FERS and CSRS annuity. For tax purposes, the Office of Personnel Management (OPM) will distribute your own contributions over your anticipated lifetime, paying you a small monthly portion of “your contributions” each month. This portion of your monthly payment is not taxable because you already paid taxes on it.The bulk of your monthly annuity payment – usually 94% or more – is taxable, because it’s made up of agency contributions and interest, which have never been taxed.The taxable portion of my own monthly annuity is almost 98% of the total.When the total of the small monthly portion of your contributions equals the total of your career contributions, then the entire amount of your annuity will be taxable.
- The amount of contributions for “new” employees increased at the beginning of this year, under provisions of the Middle Class Tax Relief and Job Creation Act of 2012. New employees and returning employees who were not vested in FERS when they left will be required to pay the new FERS-RAE (FERS-Revised Annuity Employee) contribution rate of 3.1% or 3.6%. This change increases the “old” rates by more than 300%, since FERS employees usually contributed only .8% or 1.3% since FERS was created in 1987.Over their careers, new FERS employees will pay much more into their FERS accounts than their predecessors did. They will also have larger non-taxable portions of their annuities for much of their retirement (barring changes to the tax laws).
Even with the recent increase in contributions for new employees, a lifetime annuity payment—which has nothing to do with the amount of your contributions—is a wonderful thing. Most FERS retirees will receive 15 to 30 times the amount of their contributions in annuity payments during their lives. Also, the annuity provisions of both FERS and CSRS offer the possibility of a reduced benefit continuing for the life of a surviving spouse. Try finding that kind of return on investment anywhere else!