FRS participants have a choice among two retirement plan options:
The investment option, which is a defined contribution plan (DC)
The pension option, which is a defined benefit plan (DB)
In previous posts, I covered both the FRS Pension Option and the DROP (Deferred Retirement Option Program). In this post, I’m presenting the FRS Investment Option.
The salient feature of any DC plan is the number of contributions that can go into an individual’s account. On the other hand, with a defined benefit plan (also known as a pension plan) there is a pension formula. The inputs are usually based on years of service and average or final compensation. The formula calculates a pension amount that is guaranteed over the pensioner’s lifetime or lifetimes of the pensioner plus spouse. Here, though, I’m focusing in on the FRS investment option, which is the FRS defined contribution plan.
How much money goes in?
ERISA statues define limits to contributions. ERISA is the Employee Retirement Income Security Act of 1974, which governs much of what goes on in the retirement account world. Under ERISA rules, the maximum amount that can go into an individual’s DC account is 100% of pay, up to a maximum of $54,000 (2017) per year from all sources. Those sources are your deferrals and your employer’s contributions.
You as an employee may defer 100% of your salary before tax into your defined contribution plan, up to $18,000 per year (2017). Given the $54,000 limit, that means that the maximum your employer can contribute to your account in any given year is $36,000. This amount can come from a matching formula, or from discretionary contributions. If you are age 50 or over, you have an additional $6000 “catch up” contribution available, or $24,000 maximum. The interesting thing here is that the $6000 catch up is the only circumstance where the total contribution can exceed $53,000.
As a participant in the FRS investment plan, you make a mandatory, automatic 3% contribution, which is matched at 3.3% by your employer. The Florida legislature can raise or lower this matching amount as it sees fit. You are vested in your benefit after only one year. Consequently, if you leave your FRS employer after one year of service, you take the entire account with you – both your deferrals and the employer match.
How do you invest your money?
Within the FRS investment option, you have a small selection of mutual fund subaccounts from which to choose. I say small selection because it is just that – only 3 US equity funds, 3 bond funds, and 3 international funds. There are, additionally, a number of target-date funds. These target your retirement date and become progressively more conservative as that date draws near.
Self-directed brokerage window
Another alternative within your FRS investment option is a self-directed brokerage account. Here you open up a separate account and choose from many options – mutual funds, ETFs, and individual stocks and bonds. For the experienced investor, the brokerage window can be opened with a $5000 investment minimum, and $1000 subsequent transfers. You open the account online and initiate the transfer to a money-market like a fund. Once the money is there you re-allocate the funds as you see fit. To redeem money from the brokerage account, the process works backward. You would close the investment positions; transfer funds back to the money market account, and then move it from the brokerage account back to the main FRS account.
Who bears the risk?
From a risk point of view, all the investment risk here is with the participant. The FRS investment option offers no fixed retirement income. Whatever you’ve saved and earned is what you have for your retirement. You will have an option to purchase a commercial annuity at retirement, however, which will offer a payment rising at 3% per year. This may be an attractive choice for the more conservative investor.
Furthermore, participants in the FRS system can make a one-time election to switch to the other plan. That is, once during your employment you can move from the Defined Contribution to Defined Benefit and the other way around. Say you started teaching right out of college, and you thought you’d be with the school system for your entire career. After a few years you realize that you’d like to only work a few more years, and then remain home to raise your children. You change from the pension option to the investment option, to have a potentially higher balance to transfer out.
Using the money at retirement
What do you do with your money at retirement? That depends – and our advice is, of course, to work with us to make wise decisions that are fully in your best interests. It pains us to hear of so many FRS employees who have taken unsuitable advice and put retirement funds into annuities. Our work is always custom and focuses on the individual needs of the client. As registered investment advisers we have no product to sell you. We’re not pushing to make a sale so we can generate a commission. And as CERTIFIED FINANCIAL PLANNER™ professionals, you can count on us for a fiduciary standard of care. This means unbiased financial advice, always in the client’s best interests.
For more information, have a look at my video below. We hope you’ll email us at [email protected] with questions. Do connect with us on Linkedin, and follow us on Twitter and Facebook. Visit us online at Cameron-downing.com, where you can make an appointment to come to talk things over with us.
— Glenn J. Downing, MBA, CFP®