If You Work Longer, Does Your FERS Annuity Payment Actually Increase?

Warning up front: this one will be math intensive. If you’ve got a pocket protector, now’s the time togo get it. Not really. But there is an underlying math principle in this paper, and there is a specific objective to it: determine how much your total retirement is worth when you are ready to retire.

We don’t normally think in those terms—setting a specific dollar figure on all of our retirement annuity and supplement payments. Mostly because there’s not a real reason to—we can’t cash them out even if we wanted to; OPM doesn’t have that option.

You know when you see a $100 million Powerball winner have the option of getting $5 million a year for life, or a one-time payout that seems much less? Ever wonder how they calculate that lesser, lump-sum payout? The answer’s further on in this paper.

OPM doesn’t give us that lump-sum option—we have to continue to get the monthly payouts over our lifetime. But, here’s the thing: We CAN use math to determine exactly what that annuity is worth when we retire. And it is done often in cases of divorce where the value of the annuity needs to be determined for court purposes.

Maybe at this point, your question is, “So what? What difference does it make?” The cool thing about determining what your retirement is worth, is that it gives you a hard dollar amount that you can then use to compare to what your retirement is worth at a different age. Let me explain a little. If you could determine what your total retirement payments are worth at age 50, and then determine what your total retirement payments are worth at age 57, you could compare the two to see if you’ll get more money at 50 or at 57.

Now you’re probably thinking, “I definitely get more money if I wait until 57. My High-3 is higher, mypercentage is higher because I have more time on, etc.” But, counter that with the fact that you’ll receive fewer payments in life, (regardless of when you think your death will be, 57 is by default 7 years closer to it than 50), and the eroding purchasing power of your money, and you can see that in REAL dollars, you won’t be getting more if you wait. (I can hear you guys arguing with me already. Just read on).

Here’s the math part. We have to at least understand the concept that $1 in 2018 is not going to buy the same thing as $1 in 2050. Just like what it took to purchase a house or car in 1970 is a lot less than what it takes to buy a house or car in 2018. $1 in 1970 may cost $5 in 2018 dollars. In other words, a dollar is not always worth the same in every year. Comparing a $25k salary in 1980 with a $25k salary in 2018 doesn’t make much sense. One means you live comfortably, the other is just over minimum wage.

Likewise with our retirement. Earning $50,000 at age 50 is not the same as earning $50,000 30 years later. But, using the power of math, we can “translate” dollars from any one year to any other year sothat we can compare the two using apples to apples. Or in this case, “Age 50 dollars” to “Age 50 dollars”. I understand this may be a bit confusing if you are not used to financial calculations related to Time Value of Money (that’s what this concept is called-money’s value changes over time), but the good news is that it’s not that important to understand all of the concepts and calculations. Just like you don’thave to be able to understand how an internal combustion engine works to be able to drive a car really well. I’m just laying some groundwork for those that want to understand where the following calculations are coming from.

THE CALCULATIONS

The numbers below are my actual retirement estimates from my HR Department. They use the FedHRNavigator software to project these numbers, and we will just assume they are accurate for our purposes.

AGE 50, aka “First Eligibility”

I am first eligible to retire in a few years at age 50. My High-3 is projected at that time to be $137,219. Given my service time, this equates to a FERS Base Annuity of $53,516 and a Supplement of $17,172, for a total annual payment of $70,688 from age 50 to when the Supplement stops at age 62. This equates to a monthly amount of $5,891. (I am not taking the survivor benefit reduction. Also, for purposes of making this simple, I am leaving out the taxes and deductions, comparing gross to gross in all calculations).

Age 50 to 62

For these twelve years, I will receive the combination of the above annuity and supplement—the full $5,891 monthly. What is the total of these payments? $5,891 x 12 months x 12 years = $848,304. But remember, $5,891 twelve years from now won’t buy what it buys today, so the dollars have to be “translated”, or adjusted back to what the payments are worth currently at age 50. The financial term for this is discounting. We are discounting the cash flows back to age 50. Alternatively, it is called finding the present value of a stream of payments. (These are all common financial terms and readily available if you are interested in Googling them).

Back to the numbers….

Using a discount rate of 5% (which incorporates a 2% inflation rate and a modest 3% return rate—both of which are realistically conservative), those $848,304 worth of payments arereally only worth $636,940 in “Age 50 Dollars”. That’s the true value of my retirement payments from 50 to 62 at my first eligibility date.

Age 62-86

Because the Supplement stops at age 62, I can’t continue to use the same numbers as above. Also, I have to start making some assumptions here, primarily how long I’m going to live. The average life expectancy for a male in the US is 76 years old, but I like to think I’ll be above average so I’ll give myself another 10 years on top of that. For calculation purposes, it’s really irrelevant when we stop but we need a good stopping place so I’ll pick 86.

From 62 to 86, I’ll only receive the $53,516 a year, or $4,460 a month, since the Supplement will have stopped by then. (I am ignoring COLA’s in retirement for purposes of simplicity-this is already complicated enough. But the comparisons are fair because I’ll ignore them for the next calculation as well.)

So, the total of those payments are $4,460 a month x 12 months x 24 years = $1,284,480. But remember, we need to discount those dollars back to age 50. That gives us a value in Age 50 dollars of $410,582.

When I combine that with my other, larger payments from 50 to 62, my total value of all of my retirement from age 50 to age 86 is worth $1,047,522. ($636,940 + $410,582). That would be a fair “buy-out” amount from OPM if I could cash out at that point (and if they allowed it, I DEFINITELY WOULD!)

Age 57, aka “Mandatory Retirement”

Now, let’s compare what my total retirement would be worth if I stayed until 57. After all, that’s why alot of us work longer, right?—to increase our retirement checks?

We have to make even more assumptions because we are dealing with future calculations more than 10 years away at this point.

High-3.  I’m assuming a 2% per year increase in my High-3 salary. This would equate to $157,621 at age 57. Multiply this by the additional years I would have on provides a base annuity benefit of $72,506.

Supplement.  I’m assuming a 2% increase in my SSA benefit. Multiplied by additional years on providesan estimate of $25,511, annually.

Combining these two, and I have an estimated total benefit of $98,017 annually, or $8,168 monthly from age 57 to age 62, when the Supplement stops, and just $6,042 from age 62 to age 86.

People look at this and instantly say, “WHOA! Why WOULDN’T I wait until I was mandatory?! Look at how much MORE my payments are!” Well, I’m going to explain why your payments are, in fact, LESS in the long run.

Age 57-62

$8,168 monthly x 12 months x 5 years = $490,080. Discounting these payments back to age 50 dollars gives you a total of $306,641 in Age 50 dollars.

Age 62-86

$6,042 monthly x 12 months x 24 years = $1,740,096. Discounting these payments back to age 50 dollars gives you a total of $556,219.

Add those two together and my retirement benefits (were I to retire at 57), would be equivalent to $862,860 in age 50 dollars. ($306,641 + $556,219).

Summary

Comparing the two in real dollars, my retirement benefits are worth more at first eligibility than if I were to work until mandatory and then start collecting them. In fact, they are worth almost $200,000 MORE if I leave at first eligibility ($1,047,522 vs $862,850).

Another way to say it is this: Retirement benefits are worth the most the very first day one is eligible. For every year I would wait, my retirement would be worth LESS.

If I’ve lost you completely over this, and you’ve missed everything I’ve said up to this point, please get this—this is the main takeaway and the moral of this story: It is IMPOSSIBLE for me to increase my retirement benefits by staying ONE DAY past my eligibility!

Working because one loves coming to the office, or working because one wants to increase their TSP balance, or working to pay off a debt, or some other reason may be a valid reason to stay past eligibility, but working to increase your final retirement check simply does not make sense mathematically.

Finally, I’ll leave you with one last illustration (and it’s beautiful):

You know how we each contribute money each paycheck to our retirement? Anywhere from .8% to 4.9%, depending on when you came on and what your job responsibility is? That is what your retirement is costing you. You are funding that portion of your retirement. Another way to look at it is that is your investment into your retirement. And, with any investment, the key is to get the most you can for as little as you can. In other words, a greater return on investment (ROI in finance geek speak)—you buy a stock for $200 and it’s worth $400 in a year, well then, good investment. Pay $450 for a stock that’s worth $400 in a few years, and...not so much.

We can apply that to our retirement payouts just as easily. I’ll use my numbers. At 50, I’ll have put in approximately $30,506 toward my FERS retirement. That’s my total FERS contributions over my 24 years. As we’ve already calculated, I can expect an estimated benefit of $1,047,022 over my lifetime (see above). Not bad, huh? I give them $30,506 and they give me over a million? (Incidentally, this is exactly why we do not see many pensions in the private sector any more. While employees rarely understand this math, employers ALWAYS do!)

Conversely, if I wait to retire until I’m 57, I will put in more and get less. My total payments toward FERS would be approximately $43,882, with my estimated benefit of $862,850. I give them $13,000 more to get $200,000 less? My options are thus two-fold:

Pay less for more, or

Pay more for less

I think you can figure out my choice....