With the recent release of the 2019 budget proposal, headlines in publications that cater to federal employees have blared the unfortunate news about what’s included in another budget proposal attacking federal benefits.
As noted previously on FedSmith, the benefit cuts range from changing the pension calculation from High 3 to High 5 (which comes up nearly every year) to combining annual and sick leave components (which is new in this budget).
This ongoing battle over how federal employees are compensated isn’t new…it’s just getting old.
Most federal employees and those who are already retired don’t understand how the actual funding of the benefit system works. They’re trained on the rules of the system – how old you have to be with how many years of service to earn a pension, how your sick leave applies to your pension, how much annual leave you can accrue – but aren’t armed with the facts on where the funds actually come from.
A short history lesson is in order.
Let’s start at the beginning, well, at least the beginning of the federal retirement system. On May 22, 1920, the first version of a retirement system for federal employees was established, the Civil Service Retirement System “CSRS”.
At the same time, the Civil Service Retirement and Disability Fund “CSRDF” was created as a trust fund to manage the contributions of employees and agencies into the system. Funds were paid out of the system to retirees, but at some point, the contributions didn’t cover the amount needed to pay pensions, so each year, a line item in the budget includes CSRS pension benefits to supplement the contributions.
Fast forward to June 6, 1986, when a new retirement system was created, the Federal Employees Retirement System “FERS.” The intent of creating a new system was two-fold:
- To help shore up Social Security by including more employees paying into the system, and
- To create a fully funded system that doesn’t require the Treasury to include a budget line item for federal pensions (this one is the most important to federal employees today).
Let me state that again. FERS annuities are fully funded.
How are they funded? FERS retirement funding is through employee and agency contributions and interest earned by the Treasury bonds held by the CSRDF. FERS employees hired prior to January 1, 2013, contribute .8% per pay period, FERS-RAE (hired after January 1, 2013 but before January 1, 2014) contribute 3.1% and FERS-FRAE (hired after January 1, 2014) contribute 4.4%. Law enforcement, firefighters, and air traffic controllers, covered under Special Provisions, contribute at .5% higher rates.
The creation of FERS was designed to require the agency to include the cost of retirement in their annual budgets. Each year, a retirement cost is established by OPM. Last year, that amount was 14.7% for regular employees, 32.5% for law enforcement and firefighters, and 34.3% for air traffic controllers.
Under regular FERS, the employee contributes .8%, leaving 13.9% for the agency to contribute. Again, the agency’s share is included in its annual budget.
Where do these funds go? Federal agencies pre-fund employee pensions by deferring some of their budget authority until it is needed to pay pensions to retired workers. Federal agencies defer this budget authority by transferring it to the CSRDF through inter-governmental transfers, where they are invested in interest-bearing U.S. Treasury securities.
These contributions fully fund not only the pension, but the FERS Supplement, and cost-of-living adjustments for retirees. You read that right – all of the funds required to pay your FERS pension, the FERS Supplement if you retire prior to age 62, and future cost-of-living adjustments are already in the CSRDF.
Your next question might be, “Is the CSRDF viable, or is it like Social Security where the trust funds don’t really exist?”
The surprising news is that as of the latest CSRDF Annual Report for fiscal year ended 9/30/16, there was $888.37 billion in the CSRDF with $595.16 billion directly attributable to FERS. This is an increase over the previous year (ended 9/30/15) when the total was $873.32 billion. An increase in the assets inside any pension fund is good news for the plan (just ask the state of Illinois who sees nothing but red ink when staring at their pension plan!).
According to the latest financial statement, the assets of the plan are 100% funded and viable to pay future benefits owed through 2090. The assumptions used were an interest rate of 5.25% on assets of the fund, inflation rate of 3%, and 3.25% cost-of-living adjustments for current employee salaries – all conservative estimates. The fund has continued to outperform these assumptions.
Implications of Proposed Benefits Changes
Now that you understand what happens to your contributions and the viability of the CSRDF, what do the changes to federal benefits proposed in the 2019 budget mean? As noted in the CSRDF Annual Report, plan termination is described as follows:
Since the Plans have been established by an act of Congress, they cannot be terminated unless legislation should be enacted to do so. As there is no anticipation that such legislation will be introduced, the Plans are expected to continue indefinitely.
Obviously, Congress can legislate changes to or even, ultimately, terminate the CSRS and FERS plans. However, if you have a fully funded plan that’s actually working, why would you change it?
The first reasons that come to mind are to lower the cost to government agencies, to change the dynamic of the federal workforce, and political posturing.
Which of the changes within the latest budget proposal would actually accomplish this – if in fact these are the goals? Trust me, I can’t think like a politician, so these are guesses.
This would keep the contributions of both federal employees and their agencies the same. IF the agency happened to get a few more dollars allocated to their budget for the next year, those funds could presumably go to other projects, since payroll costs would stay relatively the same.
What about the CSRDF who used a 3.25% cost-of-living adjustment factor in it’s projections? They would receive less contributions than projected; however, the pensions that are accruing would also be less since the High 3 would be lower, as well. Overall impact to the federal budget – very limited depending on how long the freeze lasted.
High 3 vs. High 5
Speaking of the High 3, this proposal has been on the table virtually every year since the early 2000’s. Basing a pension calculation on the employee’s highest five years of creditable service would lower the pension amount for the retiree. It would mean less funds would be withdrawn from the CSRDF, although the CSRDF has already planned for higher pensions based on a High 3 average.
This alone does not impact the federal budget. It could lower the total retirement cost established by OPM each year, which would allow agencies to pay less out of their budgets per employee. Overall impact to the federal budget – very limited.
Paying Higher Contributions Into the Retirement System
This is actually a place that could move the needle for budgeting purposes. If the total cost per employee for retirement benefits is 14.7% of the employee’s salary, increasing the employee’s share directly lowers the agency’s, and eventually the total federal government’s, costs.
I know you don’t like this idea. It’s not what you signed up for when you came into the government. They’re changing the rules in the middle of the game.
The upside is that your contributions are returned to you over your lifetime, and if any of your contributions remain when you pass away, they go to your named beneficiaries.
Upon retirement, OPM looks at your overall retirement contributions (you can find the amount on your earnings and leave statement under “Cumulative Retirement Contributions This Appointment”) and divides it by their life expectancy tables based on your age. If you retire at 56, the assumption is that you’ll live another 25 years and 8 months, so your retirement contributions are divided by 310.
That amount is determined to be a refund of your contributions each month when you receive your pension and is not taxable (You can do your own calculation on the OPM website).
If you have contributed more due to higher retirement contribution requirements, the tax-free amount in your pension will be higher. Small consolation for you but this particular change actually does reach the bottom line in the budget. Overall impact to the federal budget – moderate when you consider the size of the overall budget.
Eliminating the FERS COLA for Retirees
Along with the elimination of the FERS Supplement, this is the one that makes the least sense.
Does the Office of Budget and Management “OMB” and Congress not understand that this is ALREADY PAID FOR?!? It’s in the CSRDF, so unless the argument is for the federal government to “borrow” or withdraw excess funds from the plan, there is no benefit. If they were to reduce CSRS retiree COLA’s, which I’m not suggesting or endorsing, at least that would actually hit the budget. Overall impact to the federal budget – None.
Eliminating the FERS Supplement
See above. Again, this makes no sense (evidently no one said it had to).
Your employer, the federal government, made a promise when you came to work for them. If you work a certain number of years and reach a certain age, you will be eligible to receive a full, unreduced annuity.
Because Social Security is intended to be 1/3 of your income for retirement, but you’re not eligible for Social Security until you reach age 62, OPM/CSRDF will pay you a bridge payment based on your years of federal service. The cost was built into the CSRDF and is fully funded. There aren’t any savings here.
What about those covered under Special Provisions who have mandatory retirement at age 57 (age 56 for air traffic controllers)? They’re forced to retire before they can make the decision to draw Social Security.
Again, it could lower the total retirement cost established by OPM each year if FERS Supplement benefits didn’t have to be considered, which would allow agencies to pay less out of their budgets per employee.
A component I hesitate to mention, because it isn’t included in the budget proposal, is that for an employee who waits until at least age 62 to retire and has more than twenty years of service has their pension increased by 10%.
Instead of using the 1% per year formula when calculating the pension, 1.1% is used for those over age 62 with 20+ years of service. This is provided because the FERS Supplement didn’t have to be paid between retirement and age 62.
If the Supplement is eliminated, does the 10% premium on the pension get eliminated, as well? Overall impact to the federal budget – very limited.
All of the benefit changes proposed in the 2019 budget that could impact federal employees have not been addressed above. Because the proposal to combine annual and sick leave into a joint program isn’t well defined, it has not been covered here. Attention has been given to the changes that are connected to the CSRDF.
Unions and lobbying organizations representing federal employees can be heard arguing that it’s not fair to change the benefits, and federal employees are bearing the brunt of budget cuts. These are fine arguments, but they are not the ones I would make if I were a federal employee.
Now that you understand the foundation of your retirement benefits, the Civil Service Retirement and Disability Fund, I encourage you to write your representatives in Congress to let them know that your benefits, as promised, are funded and paid for. It’s one of the rare examples of a system that works!
If Congress wants to create a new retirement system (as recommended by organizations like the Heritage Foundation), that’s great, because new employees will know exactly what they can count on when they join, just like you thought you did.
* Two documents were particularly helpful in the data included in this article: The Civil Service Retirement and Disability Fund Annual Report for fiscal year ended September 30, 2016 and the Congressional Research Service report dated August 24, 2015 titled “Federal Employees’ Retirement System: Budget and Trust Fund Issues”