Wherever you are in your retirement planning, the first step should be determining how much income you would like to have in retirement and if you are headed in the right direction to satisfy that need.
It never ceases to baffle me when I ask this question in a Discovery Meeting. The answer most of the time is: “Gee, I’ve never thought about it,” even if the person is planning to retire in the next year or so. How does one know if they should be retiring if they have not considered how much income they will need in retirement? So, if you have not yet considered your desired income in retirement, now is the time to do so.
You first have to consider what your expenses will be in retirement, and then add the costs associated with what you want to do during retirement. Many of those items will come with a dollar amount.
For example, Jason and Jordan are planning to retire at the end of the year. Jason’s goal includes at least two rounds of golf every week. Jordan wants to take photography classes and possibly start a business photographing families and children. They want to travel and hope to budget for $10,000 a year. They have determined the income needed to cover their fixed expenses will remain at $4,000 a month, while the income needed to include doing the things they want to in retirement would ideally be $7,000 a month. If they determine that their present retirement plan is not allowing for their desired income, then they will need to consider their choices: Work longer and save more, or reduce their income and what they had hoped to do in retirement.
As federal employees you are very fortunate to have a pension to fill some of your income need. There are several proposals to change the way your pension is calculated, but at this point we will focus on current law.
If you are under the Federal Employees Retirement System (FERS), your three legs of retirement are the FERS annuity (pension), Social Security, and TSP.
First calculate your pension: Calculate the years and months of service you will have at your desired retirement date and multiply that by your High 3 (36 consecutive highest salary including base and locality pay), then multiply that by 1% if you have at least 30 years and are under age 62. If you retire at age 62 with at least 20 years or more of service, use a 1.1% factor. Divide the total by 12 to get your gross monthly annuity. If you are providing a survivor benefit of 50%, reduce your annuity by 10%. If you are providing a 25% survivor annuity the reduction will be 5%.
Many of you will be eligible to retire before age 62, but cannot collect Social Security until age 62. As long as you are retiring with 30 years of service and have reached your Minimum Retirement Age (MRA), somewhere between 55 and 57, depending on the year you were born, you are eligible for the FERS Supplement. In order to determine what that estimate is you will multiply your Social Security benefit at age 62 by your years of FERS service and divide the result by 40. Once you turn age 62 the FERS Supplement stops because you are now eligible for Social Security.
You can go on the Social Security website to get your estimated Social Security benefit at age 62, your Full Retirement Age (FRA), somewhere between age 65 and 67, based on the year you were born, and the maximum benefit at age 70. If married make sure to include your spouse’s Social Security estimate as well.
Do you or your spouse have any other sources of income, additional pensions, net rental real estate income, other? If so, these amounts would be included as well.
If you are in the Civil Service Retirement System (CSRS), you will not likely be eligible for Social Security unless you have a minimum of ten years of substantial earnings or are a CSRS Offset. An easy way to calculate the CSRS pension is: Add up your years and months of service and subtract the amount by 2. Then multiply by 2 and add .25. Lastly multiply the result by your High 3 Salary. Example: 32 years of service – 2 = (30) X 2 = (60) + .23 = 60.25 X High 3.
Once you have determined all your sources of income, you need to find out how much income you will need to withdraw from TSP and any other retirement savings to reach your income goal. Is your retirement savings sufficient to supplement your pension and Social Security? The earlier you start this process, the more time you will have to build your retirement savings.
To better understand how to determine if you have enough saved in TSP or other savings, we will visit Jason and Jordan’s situation.
Their desired net monthly income is $7,000. Jason’s FERS pension will provide net monthly income of $2,103. Jason and Jordan’s Social Security provides net after tax income of $3,200. They have no other income sources.
Total net monthly income between FERS and Social Security is $5,303. To equal their desired monthly income of $7,000, they will need an additional $1,697 of net income each month from TSP. Remember they will need to add the tax into the monthly amount from TSP to get a correct withdrawal amount, unless it’s from Roth TSP. Jason and Jordan have estimated their combined federal and state tax at 20%. The gross monthly withdrawal that will need to come out of TSP monthly is $2,125.
That amount you will need to have in TSP and your other retirement accounts is affected by many variables, such as the average rate of return on TSP and your desired risk comfort level. For this example, we are going to assume that they are comfortable with some amount of risk and they are projecting their TSP will average around 5% annually. Assuming a 4% default withdrawal rate and an annual withdrawal of $25,500, they should have $637,500 in TSP at retirement ($25,500 / .04 = $637,500).
This is a simple way to begin to calculate if you are on the right track to reaching your retirement goals and can be done with a basic calculator. It does not replace doing a detailed analysis which should include additional factors such as inflation, FERS and CSRS pension and Social Security COLA increases, and projecting a rate of return that is based on an investment allocation that meets your comfort level. This should be done by a financial advisor and updated regular to measure your progress.