When it comes to a comfortable annuity for life, no matter how high prices go, not all feds are treated equally.
Those who have retired, or will retire someday under the old Civil Service Retirement System (CSRS) will get a higher civil service annuity than most current workers can expect whether they retire this year or 35 years down the road. Under the CSRS and Offset programs, retirees get regular cost of living adjustments (COLAs) each January. That means that over time as inflation increases, their benefits will too. By the same percentage amount. The vast majority of current retirees are under CSRS. Those retirees are heading to full catchup-with-inflation next year. The amount of the COLA, based on the Consumer Price Index, will be known in early October.
While the majority of current retirees are under the CSRS or Offset system, the vast majority of people working for the government right now are under the Federal Employees Retirement System
(FERS). When they retire under a less generous formula, they will get a lower annuity because of the diet-COLA provision of FERS. Some years that reduction — based on an already smaller than CSRS annuity — means they will get a COLA that is 1% less than their CSRS colleagues. Over time that can really hurt. Imagine what your FERS annuity will be worth 10-to-30 years into retirement, especially if we hit future peaks of high inflation.
So what do you do in retirement whether you are under CSRS or FERS? How do you prepare for it? We asked financial planner Arthur Stein what people should be doing. That’s what we’ll be talking about at 10 a.m. today on Your Turn. You can stream it here or listen on the radio at 1500 AM in the D.C. area. Several of Art’s clients are TSP millionaires. He’ll talk about that too. If you have questions for him, please send them to firstname.lastname@example.org before the show.
As Mike mentioned in his May 6 column, “With five months left to go in the cost of living countdown, federal, military and Social Security retirees are looking at a 3% increase in benefits beginning in January…[retirees under] the old Civil Service Retirement System (CSRS) program … will get the full COLA, whatever that turns out to be. But those under the Federal Employees Retirement System (FERS) … program would get a diet-COLA that is 1% less than the actual rise in the CPI.”
The “diet-COLA” is a significant retirement planning issue for FERS retirees. Anytime inflation is 2% or greater, the FERS Annuity Cost of Living Adjustment does not fully compensate for inflation. The dollar amount of the Annuity increases but the purchasing power of the Annuity declines.
The COLAs for both CSRS and FERS retirees are based upon the CPI for urban wage earners and clerical workers (CPI-W) from the third quarter average of the previous year to the third quarter average for the current year. COLAs are effective each December 1st and appear in payments on the first business day of January, which is when December benefits are paid.
If the 2021 COLA calculation is 3%, the actual COLA for FERS Annuitants will only be 2%. The result is an increase in the FERS annuity payment but a decline in purchasing power.
The long-term effect on purchasing power is substantial. Here is a hypothetical example, assuming the CPI inflation rate is 3% every year.
The declines in purchasing power would be 8% after ten years, 17% after 20 years and 24% after 30 years. To compensate, FERS annuitants would have to either decrease expenditures or withdraw increasingly large amounts from their TSP and other investments. Investment withdrawals would need to last as long the retiree is alive.
FERS retirees will never run out of income; they will always have their Annuity plus Social Security. Their most important retirement risk is running out of investments. If investments are exhausted, then investment income stops and expenditures must be reduced to the amounts received from Social Security and the Annuity.
The American lobster can live to be at least 100 years old, more than five times the life span of the Caribbean lobster, which doesn’t even make it to 20 years. The main reason being the water temperatures American lobsters reside in are much colder and thus makes their metabolism slower, allowing it to age slower.