Colorado PERA Retirement Options 1, 2 and 3

Most Colorado educators are generally aware of the formula that calculates their PERA pension benefit:

Years of Service Credit x 2.5% x Highest Average Salary (HAS)

They also are generally aware of which HAS Table they use so they know when they qualify for a “full” retirement (non-green-shaded areas of your HAS Table).

If you are unfamiliar with either of these things, make sure you investigate further before continuing with this post.

But many educators are not fully aware that they have to choose one of three benefit options when they retire. These options differ in the monthly benefit they pay to you and the benefit (if any) they pay to your cobeneficiary if you die first (typically a spouse, but it doesn’t have to be).

  • Option 1: This pays you a lifetime monthly benefit as calculated by the formula. When you die, your monthly payment will stop and your beneficiary will receive nothing. (Unless you die fairly soon after retiring and you still have a remaining balance in your DB account, in which case they will get that remaining balance as a lump sum plus a 100% match. It typically only takes a few years for your monthly benefit to exhaust the portion of your DB account that you contributed.)

  • Option 2: This pays you a lifetime monthly benefit which is slightly lower than what is calculated by the formula. The reason for this is that when you die, your cobeneficiary will continue to receive 50% of your monthly benefit for the rest of their life. How much lower your monthly benefit will be than the Option 1 level depends on your age and the age of your cobeneficiary. Take a look at this spreadsheet for the current Option 2 factors (these factors periodically change as actuarial assumptions change). If your cobeneficiary predeceases you, then your benefit will “pop up” back to the Option 1 level.

  • Option 3: This pays you a lifetime monthly benefit which is lower than what is calculated by the formula (and slightly lower than the Option 2 benefit). The reason for this is that when you die, your cobeneficiary will continue to receive 100% of your monthly benefit for the rest of their life. How much lower your monthly benefit will be than the Option 1 level depends on your age and the age of your cobeneficiary. Take a look at this spreadsheet for the current Option 3 factors (these factors periodically change as actuarial assumptions change). If your cobeneficiary predeceases you, then your benefit will “pop up” back to the Option 1 level.

To help illustrate this, let’s look at a specific example of a 58 year old teacher who uses HAS Table 2, has 34 years of service credit, their Highest Average Salary (HAS) is $90,000, and their cobeneficiary is 60 years old.

  • Option 1 Benefit: 34 x 2.5% x $90,000 = $76,500 yearly benefit ($6,375/month). When they die, the monthly benefit stops.

  • Option 2 Benefit: $76,500 x 0.961847 (Option 2 factor) = $73,581 yearly benefit ($6,132/month). If they die before their cobeneficiary, their cobeneficiary continues to receive $3,066/month for the rest of their life. If their cobeneficiary predeceases them, their monthly benefit pops back up to $6,375/month.

  • Option 3 Benefit: $76,500 x 0.915142 (Option 3 factor) = $70,008 yearly benefit ($5,834/month). If they die before their cobeneficiary, their cobeneficiary continues to receive $5,834/month for the rest of their life. If their cobeneficiary predeceases them, their monthly benefit pops back up to $6,375/month.


Option

Member
Yearly Benefit

Member
Monthly Benefit
Cobeneficiary
Monthly Benefit
(if you die first)
Option 1$76,500$6,375$0
Option 2$73,582$6,132$3,066
Option 3$70,008$5,834$5,834

Which option you choose obviously depends on a lot of circumstances in your life, including (but not limited to) the relative ages of you and your cobeneficiary, the health of you and your cobeneficiary, any retirement your cobeneficiary has, how much savings you have in other accounts that you can draw from, your spending needs, and your values. While this is obviously an important choice, it’s not one you have to make until you are retiring, at which point you typically have at least some insight into all of these factors.

Health Insurance: PERACare vs. the ACA Marketplace

First, a caveat. Health care – and health insurance – are complicated and nuanced topics that are heavily influenced by individual circumstances and options. The following post should be generally applicable for folks who are in a similar situation as we are, but you should always investigate the particulars for your situation carefully. This post is not designed to be a comprehensive look at this topic.

An important consideration – and worry – for folks when they retire is health insurance. This is especially true if you retire before the age of 65 when Medicare kicks in. Health insurance itself can be very expensive, and a major medical condition can have a dramatic impact on your financial situation even with health insurance. Colorado PERA retirees have an important benefit in addition to their defined benefit pension – PERACare. (They also offer dental and vision insurance if you want it.) PERACare is health insurance that PERA retirees can get through PERA. It is guaranteed issuance (which was very important before the Affordable Care Act, and still nice now) and is even partially subsidized as part of your retirement benefit. But it’s still pretty expensive.

For my family, we need coverage for three: myself, my wife (also a PERA retiree, so we get two subsidies), and our daughter who is in college and is considered our dependent. Our cost for the Kaiser High Deductible Health Plan ($3,500 individual, $7,000 family deductible; $6,050/$12,100 max yearly out of pocket) is $1,654 per month, which is almost $20,000 per year (and that’s after $460/month, $5,400/year in subsidies). (Dental and vision cost an additional $140/month, $1,680/year). Obviously, that’s a significant amount of money – plus whatever out of pocket costs we have (note the high deductible) and, for those who have smaller pensions than we do, can be financially crippling. But I still consider us lucky to have the option because so many other people do not.

Before the Affordable Care Act (ACA), folks who didn’t have an option such as this either had to get coverage under their working spouse’s plan, pay for a very expensive policy on their own (assuming they could even qualify for a policy), or simply go without. The ACA was a huge improvement, guaranteeing issuance and offering plans at a variety of premium levels and coverage levels. And, for folks at the lower end of the income scale (up to 400% of the federal poverty level), your costs were at least partially subsidized. The cost of your premiums were capped at a certain percentage of your income (see the left side of the table below), with very large subsidies if you were on the very low income end, and gradually tapering off to fairly small subsidies the closer you got to 400% of poverty level. But once you crossed the 400% of poverty level cliff, the subsidies dropped to $0.

source

Prior to this year, our income – like many PERA retirees – was too high to receive any subsidies, so the cost of plans through the ACA marketplace was higher than our (subsidized) cost through PERACare. So when we retired, we signed up for PERACare. But then this year the current administration passed the American Rescue Plan Act, which did many, many things, one of which was a huge change in the ACA subsidies. For all the folks up to 400% of poverty level, the subsidies increased dramatically (see the right side of the table above), and – for the first time – there is a subsidy for those making above 400% of poverty level. Which includes us. Which is the reason for this post.

Note: While the subsidy theoretically exists no matter how high your income, it effectively phases out for higher incomes because the cap is at 8.5% of your income, and eventually that exceeds the base level premium for ACA insurance.

While I was generally aware of the change in subsidies when the American Rescue Plan Act passed, I didn’t really take the time to do the math for our situation until I read this blog post. Now, I really should have already figured this out on my own because I knew all the information, but it’s one of those things that just didn’t sink in enough to make me do the work to figure it out (not that it was that much work). As you’ll see shortly, that’s going to end up costing me several thousand dollars in premium savings for the months that I didn’t take advantage of this. The reason for this post is to share this information in case this post ends up being the one that makes you do the work to figure it out.

Note: The amount of subsidy you get for an ACA marketplace plan is based on your Modified Adjusted Gross Income (MAGI) for the 2021 tax year. Technically, the subsidy is a tax credit you get when you file your 2021 taxes, but they let you estimate what your income is going to be and reduce your monthly premium throughout the entire year, then there is a “true up” when you file your taxes. So it’s important to do a fairly good job of estimating your 2021 MAGI so you don’t end up underestimating your income, which will result in overestimating your subsidy and you could end up with an unwelcome tax bill next spring. This can affect other decisions you might make during 2021, like withdrawing from your pre-tax retirement accounts or doing a Roth conversion, both of which will increase your MAGI and therefore reduce your subsidy.

So, let’s take a look at the details. When you go into the ACA Marketplace (they are by state, here’s Colorado’s), you can enter in all your information and then it will list all of the different policies you can get, along with their premiums and coverage levels. Policies are generally grouped into Bronze (lowest premium, lowest coverage), Silver (medium premium, medium coverage, and the base for which subsidies are calculated on), or Gold (highest premiums, highest coverage). Because we’ve always been on Kaiser and like it, I then narrowed it down to Kaiser choices. And then from the Kaiser choices, narrowed it down to the two that qualify as high deductible health plans that qualify for a Health Savings Account (see this post for more on the value of HSAs).

So, with those parameters, my choices are a Bronze policy (KP CO Bronze 6500/35%/HSA) and a Silver policy (KP CO Silver 3500/20%/HSA). The Silver policy is very, very, very similar to the coverage I’m currently getting through PERACare (with PERACare having slightly better prescription drug pricing), so that’s pretty close to an apple-to-apples comparison. The cost (after subsidy) of the Silver policy for three of us through the ACA Marketplace? $1,326 per month. That’s a $328/month, or almost $4,000 per year savings over my PERACare policy, for essentially the same coverage. Wow.

But if I then consider the Bronze policy, which does have a higher deductible and a higher maximum yearly out of pocket cost, the premium drops to $996/month, which is almost a $7,900 per year savings over my PERACare policy (and a $330/month savings over the Silver policy through ACA). We are taking on more risk with the Bronze policy (because of the higher deductible and higher out of pocket max), but that will only affect us if we have a really bad year (and even then the premium savings covers about two-thirds of the difference). The vast majority of years (and hopefully every single one of them, we’ll come out ahead of the silver policy).

Normally open enrollment for ACA policies is in the fall (effective January 1st of the following year), but the American Rescue Plan Act extended open enrollment through August 15th. If we enroll now, our plan will start August 1st and last the rest of this calendar year (and we can drop our existing coverage through PERACare). (If I had been on the ball, I probably could have done this by May 1st, so we’ve missed out on 3 months of savings due to my inattention.) Then this fall, during open enrollment, I can choose to enroll in the same Bronze plan through the ACA marketplace (at whatever the 2022 rates are), switch to the Silver plan if we decide we want to, switch to any of the other ACA plans, or even switch back to PERACare. That’s an important point to keep in mind, you are making decisions one year at a time here. So if you figure out you made a poor decision, or if your health care needs change, you are only “stuck” with your current plan for the rest of that calendar year, and then you can change to a plan that better meets your need going forward.

So, if you are a Colorado PERA retiree, or any retiree who is getting health insurance from someplace other than the ACA Marketplace, it’s probably worth your time to explore the ACA plans, see what your costs might be after the new subsidies, and see if it might make sense to switch. (And, if you choose a plan that is HSA eligible, put those premium savings into your HSA until you max it out.)

Final Note: Currently the American Rescue Plan Act’s changes to the ACA marketplace are only in effect for 2021 and 2022. The current administration wants to make those changes permanent, but we’ll see what happens. If this is something you would like to see made permanent, contact your Congressperson and Senators.

Are the WEP and GPO “Fair”?

Like many teachers, the first time I heard about the Windfall Elimination Provision (WEP) and Government Pension Offset (GPO), my first response was, “That’s not fair!” Why should my Social Security benefit (by WEP) or Social Security Survivor’s Benefit (by GPO) be reduced simply because I worked as a public employee and earned a pension benefit? As with many things, once I learned a bit more I realized that the issue was a bit more complicated and nuanced than I first thought. The following are some brief thoughts about the WEP and GPO (but please realize these are complicated topics and this will not be a thorough exploration of either of them).

First, a reminder. When Social Security was created (in 1935), it was designed to be part of a “three-legged stool” to provide “economic security” to folks when they could no longer work. Those three legs were a company-provided pension plan (still relatively new at that point but very popular, even though many folks didn’t have one), Social Security (Title II portion), and the person’s own savings. It was never designed to be perfect, or to provide for a “comfortable” retirement as we think of it these days, but to alleviate poverty and suffering in old age.

“Security was attained in the earlier days through the interdependence of members of families upon each other and of the families within a small community upon each other. The complexities of great communities and of organized industry make less real these simple means of security. Therefore, we are compelled to employ the active interest of the Nation as a whole through government in order to encourage a greater security for each individual who composes it . . . This seeking for a greater measure of welfare and happiness does not indicate a change in values. It is rather a return to values lost in the course of our economic development and expansion . . .”

Franklin D. Roosevelt: Message of the President to Congress, June 8, 1934.

The Windfall Elimination Provision (WEP) is a provision of the Social Security rules that can reduce (but not eliminate) your Social Security benefit if you are eligible for a pension and did not pay into Social Security during the time you were earning that pension. This most often affects public employees (like teachers) in states where the pension plan is designed as a Social Security replacement plan. This is true of Colorado PERA and many other state plans, but not all state plans – some teachers pay into both their pension plan and Social Security simultaneously. For states where teachers pay into both, their pensions are typically much lower because they are designed to supplement Social Security (and the contributions they and their employers make to the plan are typically much lower). In states like Colorado where the pension is a replacement plan, the pension benefits are larger (as are the contributions), because the assumption is that you will not be receiving any Social Security, so therefore your pension – along with your savings – must be enough to live on in retirement.

Similarly, the Government Pension Offset (GPO) can reduce or eliminate Social Security Survivor’s Benefits. Some folks are eligible for Social Security benefits earned by their spouse if their spouse dies first, but if your pension (again, only if you also didn’t pay into Social Security simultaneously) is large enough, it can reduce or even completely eliminate those survivor benefits.

On first blush, this seems to be very unfair. Many teachers (and other public employees) work enough (typically forty quarters = 10 years of wages) under Social Security covered employment while in high school, college, and before, during and after their teaching careers to earn a Social Security benefit. If we pay into the system just like everyone else, why should our benefits be reduced simply because for some part of our career we also paid into another system? As it turns out, there is actually some really good logic behind this (although not everyone will agree), so let’s briefly take a look.

The first thing to keep in mind is that as long as you qualify for a Social Security benefit, WEP can reduce but not eliminate it. The maximum your benefit can be reduced by WEP is $480 per month (in 2020) and the reduction cannot exceed 50% of your pension benefit. Second, if you have 30 or more years of substantial Social Security covered earnings, WEP won’t affect your benefit at all. (If you have less than 30 years, the more years you have, the lower the WEP reduction is.) You can use this calculator (you have to enter in your yearly Social Security earnings) to estimate your benefit, or visit Open Social Security (where you enter in your PIA as calculated by Social Security).

So why does this provision exist? It’s because Social Security does not pay the same percentage of replacement income to everyone. Because it is designed as “social insurance” and to alleviate “poverty and suffering” in old age, it pays a higher percentage of one’s career average indexed earnings if you make less money, and a lower percentage if you make more. You can download the latest report (pdf) from Social Security, but the replacement percentage can be as high as 78% (for very low earners) to as low as (27% of the maximum Social Security covered wage, currently $142,800) for very high earners, with most folks earning in the 35-45% range.

Because of the way the formula is constructed, many folks who receive a public pension get treated like a very low wage earner and therefore get a higher benefit, even though they were not a very low wage earner. For example, let’s say you have eleven years of Social Security covered earnings and therefore qualify for a Social Security benefit. But those eleven years were mostly low-wage years, years you worked part-time in high school and college, and maybe summer jobs as a teacher. The Social Security formula then takes those eleven years of low earnings and adds in another twenty-four years of $0 earnings, as your benefit is based on your average indexed monthly earnings over the highest 35 years of earnings. To the formula, you look like someone who has made poverty level wages your entire life and, as a result, the formula will spit out a very high replacement percentage of those artificially low earnings.

The WEP formula simply tries to adjust that so that you earn a fair replacement percentage based on the wages you actually earned under Social Security. So while it feels like you are getting “penalized” for being a public employee and earning a pension, what’s really happening is that the WEP is trying to “adjust” for you getting a larger Social Security benefit than was designed.

GPO works the same way, except applied to your possible survivor benefit (survivor’s benefits were added in 1939, they were not part of the original Social Security Act) from your spouse. Survivor’s benefits were designed for families where only one spouse worked (paid work), or one spouse earns vastly more than the other. If the high earner dies first, the survivor’s benefit is designed to support the spouse who didn’t work for pay or worked for low wages. (Back in the day, this was often the stay-at-home Mom who worked very hard at home raising the family and running the household, but didn’t get paid to do that work. That still applies some today, but also includes stay-at-home Dads as well as folks who earn a lot less than their spouse or perhaps stay home for a few years.) Again, the formula for the survivor’s benefit incorrectly sees you as a low wage earner and spits out a higher benefit than intended, so the GPO tries to adjust for that.

There has often been legislation proposed to repeal the WEP and/or GPO, but it typically doesn’t get very far, both because of the faulty formula it is trying to adjust for and because of the impact on the federal budget. Right now there is legislation (pdf) before Congress that attempts to modify the WEP formula as there are cases where it adjusts incorrectly, and that has a much greater likelihood of passing (it also has a hold-harmless clause so that they use whichever formula – old or new – gives you the higher benefit).

While not everyone will agree, I generally think the WEP and GPO are fair to public employees in the context of how Social Security was designed and is implemented (especially if the formulas are adjusted by legislation to fix any incorrect adjustments). It’s a separate discussion whether pension plans as well as Social Security, Medicare and other safety-net programs are adequate in the first place.

Salary Schedule Lanes: How Much Difference Do They Really Make?

Many school districts have a salary schedule for teachers where your pay increases based on a combination of the number of years you have taught in the district (“steps”) and the educational level you attain (“lanes”). While steps are automatic (well, except for the occasional bad budget year where steps are frozen), lanes are dependent on whether teachers get additional education (and how much they get). Most teachers are aware that if they get additional education and move across the lanes they can increase their salary, but many may not know the huge difference that can make over time.

Again, inspired by a slide Ben Johnson created, I thought it might be helpful to take a look at Littleton Public Schools’ (LPS) salary schedule. LPS has a Schedule A and a Schedule B, with most folks (I believe) on Schedule B, but with Schedule A retained for some veteran teachers who it is more advantageous to stay on the older schedule (LPS pays you whichever schedule is higher for you). For this example, I’ll just focus on Schedule B.

While the salary schedule is generally “set” (at least until there is some kind of major negotiated change like when they added Schedule B), the schedule itself (usually) changes from year to year as each cell is inflated by a yearly increase to help offset inflation. I’ve created a spreadsheet that takes the current Schedule B and inflates future year salaries by 1% each year (as those increases have been rather sparse lately), but you can change that to a different amount if you wish (cell E2, outlined in purple). The first table in the spreadsheet shows what the (projected) salary will be for each step and lane for the next 40 years.

The second table (as you scroll to the right, beginning with Column N) shows the cumulative sum of the salaries in each lane. For example, if you look in cell P11, you’ll see that a teacher in the BA+40 lane will have a total cumulative salary of $368,598 after seven years of teaching. This assumes they are in that lane for all seven years (and that the 1% yearly increase in the schedule is accurate). An important point to keep in mind when looking at this spreadsheet is that very few teachers will remain in the same lane for their entire career (unless they are already at BA+40 or MA+90/DOC when they begin teaching). Because teachers have to complete continuing education credits to remain certified, it is almost a certainty that they will occasionally move horizontally across lanes.

But there is a hard break between BA+40 and MA. If you don’t get your Master’s degree, then you are “stuck” at BA+40, those continuing education credits don’t do you any good (in terms of salary, they obviously hopefully help you become a better teacher). Once you have your Masters, then you can continue moving lanes until you max out at MA+90 (or if you get a Doctorate).

The final table (as you scroll to the right, beginning with Column X) is the “difference” table. This shows the difference between the cumulative salaries in each lane as compared to the MA+90/DOC lane after 10, 20, 30 and 40 years of teaching. For example, here is the difference after 30 years of teaching:

So, after 30 years of teaching, you make about $1 million more (cumulatively) in the MA+90/DOC lane than in the BA lane. (And, likely a more helpful comparison, about $668,000 more if you compare BA+40 to MA+90/DOC).

As you scroll through the table, you’ll notice those numbers start to increase somewhat dramatically as you pass 10, 20, 30 and perhaps head toward 40 years. Again, a reminder that teachers will likely receive salaries in multiple lanes throughout their career, so these numbers won’t match anyone exactly (even if the 1% projected yearly increase was exactly right for 40 years). But it’s still very illustrative of the financial difference moving horizontally across the lanes (and moving horizontally as quickly as you can) can make (and getting your Master’s degree as quickly as you can.) I think focusing on the difference between the BA+40 column and the MA+90/DOC column (because of the hard break if you don’t get a Master’s degree) is probably the most impactful.

A couple of caveats, however. First, getting those additional hours is generally not free (especially getting a Master’s degree), so there is some cost associated with moving horizontally across lanes (but some of that cost is unavoidable, as you have to get recertification hours).

Second, money isn’t everything. Really. So having the time, opportunity and energy to pursue these additional hours has to fit into your life circumstances, as well as what you value and want to do with your life. So please don’t feel “shamed” if you haven’t moved across lanes or if you choose not to. This has to be part of the “good life” that you want to live.

With those caveats in mind, hopefully this spreadsheet shows you the financial impact moving across lanes can have and that will hopefully help inform your decision making. And one more thing, keep in mind that your PERA Defined Benefit is based on your highest average salary (either highest 3 or 5 years, depending on when your PERA membership started), so not only does moving across lanes increase your cumulative salary while you’re working, it continues to increase your cumulative retirement income once you start drawing that PERA benefit for the rest of your life (and possible your co-beneficiary’s life if you choose an Option 2 or Option 3 benefit).

Does this information spur you to accelerate moving across lanes? Or do you feel like you have “enough” and your time and energy is better spent elsewhere? Feel free to leave a comment below or reach out with questions or suggestions.

Fees Matter: Vanguard, PERA, TIAA and MetLife Comparison

Inspired by some of the work Ben Johnson has been doing, I decided to revisit two posts I’ve previously done on the retirement plans (401k/403b/457) available through Littleton Public Schools and Douglas County Public Schools. (Note that the expense ratios are slightly lower now than when I wrote those posts.)

It’s probably worth reading at least one of those posts for context, but I basically compared the fees you would pay for investing in PERA’s 401k/457 plan with those you would pay in the other vendor offered (TIAA for LPS, MetLife for DCSD). In this post I thought I’d take that a step further by showing the compounded effects of those fees over time, as well as throw in a comparison to an IRA at Vanguard.

Important note: IRA’s have much lower contribution limits than 401k/403b/457 ($6,000 vs. $19,500 if you are under the age of 50), so you can invest much more each year into your workplace plans. And there are also income limitations on whether you can contribute to an IRA, whereas there are no income limitations on 401k/403b/457 plans. And don’t forget the behavioral aspect – some folks need to have the money taken directly from their paycheck otherwise they won’t ever end up investing it.

So I created this spreadsheet to illustrate the impact of fees over time. Like all spreadsheets of this nature, it is based on many assumptions and those assumptions may be incorrect. Feel free to make a copy of the spreadsheet and change any of the assumptions you wish. For example, for the return on different asset classes, I put in the long-term compounded average return, but many folks think those will be lower in the future, so feel free to adjust. You also can adjust your asset mix between the different asset classes (I kept it fairly simple by limiting to US Large Cap Stocks, US Small/Mid Cap Stocks, International Stocks, US Bonds, and a Target Date fund choice.) Make sure the asset allocation mix adds up to 100%!

You can also change the initial amount you have invested (currently $0 in my examples) and the amount you are adding to your investment each year (currently $6,000 in my examples). You should not change the fees charged by Vanguard, PERA, TIAA or MetLife (unless you are reading this enough in the future that those have changed as well), nor the columns that keep track of your running totals with each vendor. Note that the fees for each are based on the lowest-cost fund offered within each asset class with each vendor.

You can change any of the numbers that are in cells with a purple outline, leave the rest alone.

So, let’s look at some selected results. First, what if you had an aggressive, all-equity allocation of 40% Large Cap, 30% Small/Mid Cap and 30% International? This is what it look like after 10 years:

As you can see, investing at Vanguard is going to get you the best overall return, and investing with PERA is going to be a better choice than either TIAA (LPS) or MetLife (DCSD).

How about after 30 years?

Wow. You’d have over $110,000 more in Vanguard than with MetLife, and over $90,000 more if you choose PERA over MetLife. And if you take it out to 50 years (think starting when you are 22 and not withdrawing until age 72 when you have to start taking Required Minimum Distributions):

Almost $1.5 million more in Vanguard than in MetLife, $1.2 million more with PERA than MetLife. (Note that these numbers get even further apart with contributions that are greater than $6,000 per year, although the percentage differences will be the same.)

Okay, well what if you just chose a Target Date fund (which is the default option in your 401k/403b/457 plans, and a good, simple choice for lots of folks) and put 100% of your money into that? Here’s after 10 years:

Note that here PERA is actually ahead of Vanguard due to the lower expense ratios on their Target Date funds, but both Vanguard and PERA are still doing much better than TIAA or MetLife.

30 years?

50 years?

Play around with the assumptions in the spreadsheet, including the asset mix that most closely reflects your desired asset allocation. But no matter what mix you choose, Vanguard and PERA will come out the best (usually Vanguard as the best, with PERA only if you go with just a Target Date fund). TIAA will come in a distant third, and MetLife a very distant last place. (And keep in mind that the negotiated fees with TIAA and MetLife are actually pretty good compared to many folks’ 403b choices around the country.)

And yet many employees in LPS and DCSD choose TIAA and MetLife. Why? Perhaps because a sales rep contacted them and was kind, concerned, and “helpful”. Perhaps because they think they can choose investments and “beat the market”. Or perhaps they just chose without much knowledge.

So, now that you know a bit more, what changes might you make with your investments? In general, if your adjusted gross income is not too high (varies depending on Traditional vs. Roth, and increases slightly each year), opening up an IRA at Vanguard is going to be your best choice to fund first (this is assuming you are disciplined enough to invest the money when it doesn’t come directly out of your paycheck).

If you max that out (remember, IRA’s have much lower contribution limits each year), then fund your PERA 401k or 457 next. In LPS, I would choose the 457 over the 401k, as it’s a bit easier to access the money before age 59.5 (unfortunately, DCSD has not chosen to offer the PERA 457), but otherwise the 401k and 457 are essentially the same.

If you are able to max out your personal IRA and your 401k or 457, then you can invest in the one you haven’t yet, as the 401k and 457 are different “buckets” and they each have their own, separate contribution limit (note that the 401k and 403b draw from the same contribution “bucket”). This means that in 2021 if you are under the age of 50 (if your income isn’t so high that you can’t contribute to an IRA), you can contribute up to $6,000 to an IRA, $19,500 to a 457, and another $19,500 to a 401k, for a total of $45,000. If you are 50 or older, you get “catch up” contributions, which gives you an extra $1,000 for your IRA and $6,500 for both the 401k and 457, for a total of $59,000. (And, depending your plan, there may be special catch up contribution provisions in your last 3 years of work that can let you contribute even more.) Keep in mind that for all of these you have the option of doing a Traditional (pre-tax) contribution or a Roth (post-tax) contribution, which is a complicated and entirely different conversation.

As always, feel free to reach out with questions (or comment below).

PERA Votes to Switch from Voya to Empower

The PERA Board voted, pending final contract negotiations, to switch record keepers for the Defined Contribution plans (which includes the 401k/457b plans) from Voya to Empower. Voya came in second place in the RFP process, and it would’ve been “fine” to continue with them, but staff, the consultant, and the Board all thought Empower would provide a better experience to members.

The fee each proposed is essentially identical (Empower was slight higher in their bid). I would suspect that it won’t change the fee structure for the plan/funds at all, but I don’t know that for sure as I don’t know how the proposed fee compares to the current fee. (Since PERA has consistently focused on lowering the fees, I would be surprised to see them go up, but we’ll see.)

I’ve shared screenshots of the two slides below as reference for the pros and cons of each. But, essentially, Empower appears to offer better service, more customized offerings, and better technology. Interestingly, Empower purchased Personal Capital last year and will be integrating that into the platform by year’s end. I think that has huge potential if it’s done correctly.

I also think it’s significant that the PERA staff ranked Empower higher, considering that makes more work for them as part of the conversion. Note that there was going to be a fair amount of work no matter what, because as part of this RFP PERA is going to transition away from single sign on (meaning you will no longer have to sign on to PERA’s website in order to get to Voya – soon Empower), and they will be aggregating the contribution data before it goes to the vendor (right now each employer sends their data to Voya, after this transition it will all get sent to PERA and PERA will send one file to Empower). But, even with that, there will be a ton of work in order to convert the data over and, of course, in communication.

I do not know the timeline of when this transition would actually happen, but my sense would be by the end of this calendar year. I’ll have to see the final details, of course, but at the moment I’m cautiously optimistic about this change.

FI for Colorado Teachers Part 6: Case Study 2: Teacher Married to a Non-Teacher

TL;DR: This case study looks at a teacher married to a non-PERA-covered employee and lays out several paths for retiring (or achieving work-optional status) by age 45.

part6

Part 1 in this series describes the “what” and the “why” of Financial Independence. Part 2 discusses the process of “how.” Part 3 looked at the possible “what its” and “yeah, buts” objections to accomplishing FI. Part 4 discusses how knowing the rules around taxes can allow you to optimize your finances and help you achieve Financial Independence. Part 5 was a detailed case study of how a teacher married to another teacher could achieve financial independence by age 45. This post is very similar to part 5, but will look at three scenarios for a teacher married to a non-PERA-covered employee, and lay out some possible paths to achieving Financial Independence and retiring early (or achieving “work optional” status).

You might want to go back and read paragraphs two through seven of part 5 for the background and context for these scenarios (decided not to copy and paste here). Go ahead, the rest of this post will still be here when you come back. Just like in part 5, you really have to look at the spreadsheet and the associated google doc for each scenario to see how the plans unfold.

Scenario 1
Teacher married to a non-PERA-covered employee, in their third year of work in 2020, with a one-year-old child. They were hired before July 1, 2019 (which affects what’s included in PERA-includable salary), and assumes the teacher is eligible to purchase 5 years of PERA service credit.

Please note that while I’ve gone over all the spreadsheets many, many times, there is still a possibility that there is a mistake (or more than one). It could be a mistake in a formula, or it could be a mistake in overlooking some aspect. Please, please, please, if you find something that you think might be incorrect, let me know so that I can take a look and adjust it.

Scenario 2
This is similar to Scenario 1, except assumes the teacher is not eligible (or just choose not to) purchase five years of PERA service credit. This lays out a path to retiring at age 43.

Scenario 3
This scenario looks at two twenty-three year olds just starting their employment, and assumes the teacher was hired after July 1, 2019 (which affects how their PERA-includable salary is calculated as well as when they are eligible to retire). This lays out a path to retire at age 45.

Reminder
After looking at some or all of the scenarios in-depth (the links to the doc and the spreadsheet for each), remember to look back at Part 3, the “What Ifs?” and the “Yeah, Buts” to recall that this is a choice. You should align your goals with your values, and you may choose to do some things differently than I’ve schemed out, or not to do this at all. That’s perfectly fine, of course, but be intentional about it.

For example, some folks will look at the “net to live on” columns in these different scenarios and say that’s just not possible. Well, first, realize that is the actual amount you can spend, not your total “income”, which is different than the way a lot of folks think about their spending. And, second, realize that it is possible to live comfortably but not extravagantly on that amount of money, you just have to decide if it fits with your values and goals. I encourage you to actually think it through and then make some decisions that do align with your values and goals, don’t just let your financial life “happen” to you.

  • Part 1: The Concept
  • Part 2: The Process
  • Part 3: The “What Ifs?” and the “Yeah, Buts”
  • Part 4: Tax Optimization
  • Part 5: Case Study 1: Teacher Married to a Teacher
  • Part 7: Single Teacher

Financial Independence for Colorado Teachers Part 1: The Concept

TL; DR: This is the first in a series of posts that will lay out a possible path for Colorado teachers to achieve Financial Independence and retire* early. This post looks at the concept of Financial Independence and discusses a little bit of the “what” and the “why”.

*Retire only if you want to, but certainly achieve a “work optional” stage of life much earlier.

This is the first in what will be a series of posts discussing how Colorado teachers can achieve financial independence. (Actually applies to any Colorado public school employee, not just teachers, but will focus on teachers.) This post will focus on the concept of financial independence: what it is, why you might want to achieve it, and the basic outline of what it takes to get there.

There are many, many, many excellent resources online (some of which I’ll link to at the bottom of this post) that are better written, broader in scope, and more in-depth. But I decided to write this series because, as far as I know, there is not any that are devoted specifically to Financial Independence for Colorado teachers. The path to Financial Independence is different for everyone, but there are certain aspects of being a teacher in Colorado that make this an easier path and are worth exploring in detail (notably Colorado PERA and the specifics of the Colorado state tax code). My hope is that this can be a resource for Colorado educators to adapt some of the terrific information that is available elsewhere online in light of the added options that PERA and the state tax code give you.

If you’ve ever explored anything financially related online, you have probably come across the acronym FIRE, which stands for Financially Independent Retire Early. (I will include some links to resources at the bottom of this post you might want to investigate.) While the FIRE concept may seem to be pretty well defined, there are many different approaches, definitions, and opinions about exactly what it means, so let me give you my take as a frame of reference for this series of posts. (Not that you have to agree with my take, but just as a common understanding for these posts.)

It seems to me that there is often a misconception of financial independence that it’s all about money. In my view, it’s not. Money is the means but not the end. Financial independence is, at its essence, exactly that – meaning that you don’t have to be employed and earning income in order to meet your financial needs. When you “achieve FI”, that means you have enough savings and investments to live off of even if you never earn another dollar at a job. That doesn’t mean you have to retire, the ‘RE’ part of FIRE, but it means you can if you want to (or circumstances dictate that you have to). Some people refer to this as a “work optional” stage.

So if FI is not about money, what is it about? I think it’s about living your best life and the life you want to live. It’s about making the most of your limited years (time is not a renewable resource) and about maximizing the time you have to do what you want. It’s about being intentional about life and not just letting life happen to you, but taking a little bit of time to plan the life you want to lead, one that aligns with your values, and then take the steps to allow that to happen. Perhaps that doesn’t seem all that different than what most people do, plan for the future. But this is taking it one (or two) steps further than most people do and being much more granular about the financial aspects of your future in order to achieve the life you want to live.

One of the unfortunate things about American society (I’m focusing on the United States in these posts) is the lack of knowledge and open discussion about money and finances. In many families, money is a taboo subject, and most schools do little or no real financial education. As a lifelong educator, it saddens me that we don’t make an effort to really educate our students about money and finances. Not because money or wealth is important in and of itself, but because of the tremendous impact finances and financial decisions have on everyone’s life. (If I was pressed to name the two most important subjects we should teach in K-12 education, it would be Physical Education and Financial Education, as those are so important throughout everyone’s life, yet we devote very little resources to teaching them.)

That doesn’t mean society doesn’t talk about “Money” with a capital ‘M’. We are inundated with stories about making money and wealthy people, bombarded with marketing encouraging us to buy things, and often social pressures to look and dress and own the correct things to fit in. But that’s as far as it goes for most folks, we get the pitch for all these things that are “desirable”, but not the knowledge and resources to manage our financial lives in a way that matches up with our goals and our values. FI is about achieving your goals and living your values. That may include retiring early or it may not – it’s about making decisions that optimize meaning and happiness. Once you achieve FI you may still continue to work, but you’ll continue because you want to do the work, not because you need the paycheck. And if at that point in your life you are ready to do something else, you won’t be restricted from making a change because of the need for that paycheck.

I think most folks would think that my family has done really well financially along the way, and we have, but if I knew what I know now back when we were first starting our careers, we would have achieved financial independence much earlier. So this series is intended to help some of you, if you decide this is the path for you, to do it better than we did. So what does it take to get there? Future posts will go into more detail, but it generally boils down to spending less than you make, and then saving and investing the rest. It’s also about making smart lifestyle choices (living within and actually below your means), and understanding the math of things like compound interest and how your taxes work.

Below you will find links to subsequent posts in this series (as the posts are written, the links will become active), as well as links to some excellent FI(RE) bloggers and other resources that you may want to investigate if you want to go down the rabbit hole and learn much, much more about this idea.

  • Part 2: The Process
  • Part 3: The “What ifs?” and the “Yeah, buts”
  • Part 4: Tax optimizing/401k/403b/457/Section 125
  • Part 5: Case Study: Teacher Married to Another Teacher
  • Part 6: Case Study: Teacher Married to a Non-Teacher
  • Part 7: Single Teacher

Some excellent resources to learn more about FI(RE)

Focus On: DCSD Retirement Plans (401k/403b/457 Plans)

Summary: Choose the PERA 401k plan and invest as much as you can.

 

dcsdretirement

The first part of this post repeats the information in the LPS Retirement Plans post, then the rest of it is specific to the choices you have in DCSD.

The idea of retirement is a fairly new one. It wasn’t until early in the 20th century that the concept of retiring from work and “living a life of leisure” was even a concept. Many employers started offering pension plans and then Social Security came along in 1937. Then in 1978, the idea of a tax-deferred savings plan (401k) was created, although it’s original intent was not the way we’ve ended up using it.

Social Security was really designed to be part of a “3-legged stool” concept of retirement, that retirees would draw from their company pension, from social security and from their personal savings. As pension plans have gone out of favor and 401ks have taken their place (particularly in the private sector), it has really become a two-legged stool (which is somewhat problematic). For public school employees in Colorado, PERA is a social security replacement plan, so basically covers those two legs, leaving the personal savings leg for you to figure out on your own. That’s where employer-offered tax-deferred savings plans come in.

All PERA employers offer the PERA 401k plan to their employees, and some employers also offer access to the PERA 457 and the newly created PERA Roth 401k/457 plans. Many school districts also offer additional, non-PERA options for tax-deferred accounts. This post will focus on what’s offered in Douglas County School District, but you should check with your employer to see what options they offer.

DCSD allows you to choose between PERA and MetLife for retirement savings vehicles, offering the PERA 401k and the MetLife 403b, 457, and Roth 403b plans. There are subtle differences between 401k, 403b and 457 plans that can be important but, for the purposes of this discussion, we’ll treat them as roughly the same, with the important exception that you have separate contribution limits for 401k/403b and 457 plans which gives you the ability to save more if you have the cash flow to do that.

This post is not intended to be an in-depth explanation of 401k/403b/457 plans (or their Roth versions), but let me try to briefly describe them (if you decide to work with me we can dive deeper if need be). The idea behind 401k/403b/457 plans is to save money in a tax-deferred account, which means that you are not taxed on your income that you place into those accounts now, nor are you taxed on the earnings in those accounts as they accumulate, but you are only taxed when you make withdrawals which will hopefully be when you are retired. The traditional thinking is that most folks will be in a lower tax bracket when they are retired, so not only do you reap the benefits of saving “extra” all those years by not paying taxes up front, but when you do pay taxes upon withdrawal you will pay a smaller amount.

More recently Roth 401k/403b/457 plans have been created (along with Roth IRAs, which don’t flow through your employer) that take a different approach. For these plans you do pay taxes on any income you invest, but the earnings grow tax free and all withdrawals in retirement are tax free as well. In other words, pay the tax up front, never have to worry about taxes on this money again. For folks who think their tax bracket might actually be higher in retirement, this is a better option.

The obvious conundrum is how do you know for sure whether your tax bracket will be higher or lower in retirement? You don’t, which is why many folks choose to put money into both types of accounts to hedge their bets and give themselves more flexibility in retirement by giving them the option to withdraw from whichever account makes the most sense based on their current tax situation. (There are also some really nice benefits of a Roth if you are trying to leave an inheritance.)

Many employees, especially younger ones, kind of throw up their hands at all this. Retirement seems like a long way off, the choices can be complicated, and of course choosing not to spend money right now can be difficult for some folks. But the beauty and power of investing is compound interest, and it’s most effective the more time you give your money to grow, so the sooner you start, the better (and easier) it is to generate the retirement savings you want.

Many folks thinking about 401k/403b/457 plans also don’t take into account the effect on the tax-deferral on their current income. They think about putting say $100 a month into a 401k, but then worry they can’t do without that $100 a month. But they’re missing that their actual paycheck won’t go down by $100, but more like $70 (if you are in the 25% federal bracket, plus 4.65% for Colorado taxes). The government is basically saying, “invest $70 and we’ll give you $30” (always remembering that eventually they are going to tax you on that when you withdraw it). If you choose the Roth options, you don’t get that tax break up front, so your paycheck will decrease by $100 (but the potential for tax-free growth over time is tremendous).

So, with that overview, if you are a DCSD employee, should you choose PERA or MetLife? Well, again, that depends on your individual circumstances and I’d be happy to discuss those with you, but for most people PERA is the better choice because of lower fees.

PERA offers a choice of several funds or a self-directed brokerage account if you want more control. For most folks, the funds are the better choice. In 2011 PERA chose to go with a “white-label” approach to investments. Research has shown that many folks make poor investment choices when given too many choices so, instead, a “white-label” approach has you choose among asset allocation choices instead of picking individual funds.

whitelabel

I’ll write more in future posts, but there are basically three things you can control when saving for retirement:

  1. How much you save.
  2. What asset allocation you choose.
  3. How much in fees you pay.

By going with a white-label approach and trying to keep fees low, PERA has tried to simplify the second and third choices for you. For each of their asset classes, PERA has typically gone with a combination of a passive (index) approach and an active (managed) approach. This combination gives you lower fees than a fully active approach, but higher fees than a strictly indexed approach. PERA thinks that they can achieve higher returns than the index this way. I’m a big fan of index funds, so I’m not totally convinced of this approach but, so far in their short lifespan (since 2011), they have mostly achieved this to a small extent.

perafees

PERA does also give you a self-directed brokerage option (for an additional fee), which allows you almost unlimited choices in investments. For most folks, the additional complication of choices and fees make this sub-optimal, but it’s there if you want it.

selfdirected

For some reason, DCSD and/or MetLife have made it extremely difficult to get information about the plan. It took me three weeks of emails and calls to finally get the information we needed. (The way they currently have it set up, you can only find out information about investment choices and fees after signing up and giving them money, which is less than ideal. They are working on fixing that.)

MetLife gives you access to a small set of individual mutual funds, which is one of the reasons the fees tend to be a bit higher (0.34% administrative fee plus the underlying fund fees, some of which are pretty high). Here’s a comparison of fees for a large-cap investment in the PERA white-label fund, the PERA self-directed brokerage option invested in a large-cap index fund (they require you to keep $500 in PERAdvantage funds), and the MetLife option invested in the same index fund. (You can view comparisons for other asset classes here.)

metlife

 

If you look carefully, you’ll notice that the cheapest option is the PERA self-directed brokerage option (as soon as you pass about $20,000 in your account), with the PERAdvantage funds coming in second, and MetLife coming in last. Since the middle and third columns are essentially the same choice in terms of what you’re investing in, there’s no reason to choose the higher fee MetLife option over the PERA option. If you are investing a lot, you can save in fees by going the self-directed brokerage option, but this is where PERA would argue that they think they will outperform the index and make up those fee differences. The differences are small enough between the first two columns that, for most folks, it’s probably best to stick with the PERAdvantage options.

Importantly, this fee difference gets much more extreme if you choose anything other than the three Vanguard choices in MetLife. The MetLife Target funds have a total fee of 1% (compared to 0.18% for PERA), and the International Fund is 1.48% (compared to 0.52% for PERA). This is really, really bad, and you should avoid these at all cost (pun intended). The only reason to choose MetLife is if you’ve maxed out your 401k and want to contribute additional money to a 457 (since their contribution limits are separate, and DCSD has chosen not to allow contributions to the PERA 457 plan). I hope that DCSD considers adding the PERA 457 option in the future as an alternative to the high-priced MetLife.

In future posts I’ll write more regarding possible asset allocations (which fund(s) should you choose), contribution limits (and the fact that you get separate limits for 401k/403b vs. 457, allowing you to save much more if you can), and the power of compounding. But, for now, this gives you an idea of where to start. The key thing is to start now and put as much as you can into one or more of these vehicles so that your “stool” will be sturdy enough to support you in retirement.