How Can Federal Employees Plan for a Secure Retirement Despite Proposals to Cut Their Benefits?

Recent proposals suggest cutting federal employees’ retirement benefits. How much of an impact would these have if you look at some of the actual numbers?

News of various proposals to cut the retirement benefits of federal employees continues to come out of Washington.

The White House’s 2019 budget proposal contained various proposals to reduce or even eliminate some current retirement benefits. Among them are a move from a high 3 to a high 5, reduction or elimination of cost of living adjustments (COLA), and increasing federal employees’ share of contributions to retirement under FERS.

More recently, the Office of Personnel Management has called on Congress to enact some of these proposals to bring federal workers’ benefits more in line with that of the private sector.

While many of these proposals have been around for years, even decades, the probability of Congress to enact legislation to alter federal employees’ benefits seems more likely, or at the very least should spur federal workers to make their own retirement plans in the areas that they can control to ensure the brightest financial future possible.

How much of an impact would some of these proposals ultimately have in terms when looking at some actual numbers? Let’s take a look at some examples.

For my analysis on some of the other benefits proposals, be sure to see my other recent article, Observations on OPM’s Recommended Adjustments to Federal Employee Benefits.

High 3 to High 5

Adjusting how one’s pension is calculated from a high 3 salary to a high 5 is arguably the most difficult proposal to assess as it requires knowing the years of service, the employee’s salary over time, and other specifics that are factoring into their pension formula. 

We can use some rough math to provide some context. Assume for a moment someone worked for the federal government long enough to accrue a pension that equaled 20% of their high 3, or high 5 if it becomes that. 

Next, we would need to know their salaries for the highest 5 years of working for the government. This data is what high 3 or high 5 means. The pension takes the highest 3 years of federal employment and averages those 3 numbers, then takes 20% of it. For example, the person may have earned $70,000, $72,000, $74,000, $76,000 and then $78,000 during their highest 5 years of service. 

Typically when walking through an example involving salaries, a response may be that raises have gone away and no one has been getting those for years. Two points on that topic. 

One is it’s possible these increases are not the result of raises but of promotions earned periodically. These are perhaps rare to be obtained on an annual basis, but it still could result in a raise somewhere during the highest 3 years. 

A second point is if a federal employee were to happen to not receive any promotions or raises over their highest 5 years of employment, then this proposal to extend the calculation from high 3 to high 5 would not negatively affect them at all. If their salary was $70,000 for 5 years in a row, then regardless of whether the pension is the high 3 or high 5 it’s still based on $70,000. 

Back to our individual though who had increases from $70,000 to $78,000 and we see that their highest 3 would be the final three for an average of $76,000. If, however, the formula was moved to a high 5, their average would then be $74,000. 

In either of these cases the pension would be 20% of this figure which is $14,800 in the high 5 and $15,200 in the high 3. This means an adjustment like this would cause a gross reduction of $400 annually to their pension. 

In this particular example the reduction is minimal. It is possible the reduction could be larger in dollar terms due to much higher salaries over time, or perhaps a higher percentage due to longer service, or finally a large jump in income one year that causes a higher average. But in most cases, as a portion of the total pension, this adjustment from high 3 to high 5 causes a relatively minimal reduction. 

Employee Contributions to Retirement

Lastly, employees currently with the federal government contribute a cost in their paychecks that goes to help fund their pension. The percentage they pay depends on their hire date. For example, starting in 2013, the percentage of salary withheld to cover the cost of one’s pension increased for those hired that year or later. 

Consequently, this proposed adjustment has some recent precedent behind it. However, that change in 2013 only affected those hired after that year. 

Presumably this option would now affect current employees and not just those hired in the future. It’s difficult to know how much of a proposed increase there would be to the required contribution. If some employees are currently paying just 0.8% while others are paying 4.4%, it might affect some workers more proportionately than others. One scenario from the Congressional Budget Office has the cost increasing to 5.8% at its highest point, referenced here. 

If we apply a given salary to these percentages, say $100,000, then the actual dollar reduction in pay can be closely estimated. Going from 0.8% all the way up to 5.8% would be a noticeable jump. If it actually occurred, it would likely be phased in, however, that is an increase in cost of 5% or $5,000 on a salary of $100,000. 

This $5,000 figure is currently part of an employee’s paycheck which means it is being taxed first, so the reduction in pay that one actually sees wouldn’t be the full amount. It could be a few hundred dollars per paycheck however. If an employee is already paying 4.4% toward the cost of their pension and it went up to 5.8%, there would still be a difference in pay, but net of taxes not as significant a reduction. 

Time will tell what changes will be implemented if any. There will surely be many letters expressing a perspective on the topic. FedSmith will report on this issue as it progresses. 

About the Author

Brian Kuhn CFP® is a financial planner at in Maple Lawn, MD. He has been working with families since 2001 with a niche of federal employees. He is the author of The Personal Finance Handbook, a Guide to the Most Common Personal Finance Questions. Securities offered through Triad Advisors, Member FINRA / SIPC. Advisory Services offered through Planning Solutions Group, LLC. Planning Solutions Group, LLC is not affiliated with Triad Advisors. PSG Clarity is a division of Planning Solutions Group, LLC