While starting a new position at an Illinois Public University may be an exciting time, there is a lot to do. Beyond meeting your colleagues, learning the ropes of your new department and developing your new courses (if instructing), there is one big decision that needs to be made. You need to select a Retirement Plan through the State Universities Retirement System (SURS). This decision is complex, so do not put it off! The following may provide some guidance when making your decision.
As background, there are two Tiers to the SURS Program. Tier I, which has more generous pension benefits, only applies to participants enrolled before January 1, 2011. (In some cases, if you were employed by a University system before January 1, 2011 but not a participant in SURS, you may still qualify for Tier I). Tier II applies to those enrolled on or after January 1, 2011. Because this post will mostly affect those enrolling in Tier II, what follows describes solely Tier II rules.
So let’s get started!
Weighing the Options
When you begin employment at the University, you must select among three plan offerings; Traditional, Portable, or Self-Managed Plan (hereafter referred to as SMP). Once made, your plan selection is irrevocable and cannot be changed. Choose diligently, but do not delay. While SURS contributions begin immediately, you will lose employer matching under the SMP plan until you opt in. This could mean missing out on up to 6 months of employer matching by delaying your decision! If you fail to select a plan by the 6-month deadline, you are automatically enrolled in the Traditional Plan.
Of the three choices, both the Traditional & Portable Plans are considered Defined-Benefit pension plans. In these plans the employer assumes all of the investment risk. The retirement income that you will receive is determined by a formula that takes into consideration your earnings and length of service. The SMP Plan is a Defined-Contribution plan. The employer contributes a pre-determined percentage of your earnings to the SMP plan on your behalf. Those funds are deposited into your account to be invested at your direction (self-directed). This means you are responsible for selecting and managing the investments now and into the future. Your future retirement income depends on the balance of your SMP account at retirement.
Identifying all possible factors and predicting all future outcomes is impossible. We advocate making your plan decision based on being well informed and considering what you know today. Here are some factors we consider when helping clients choose a SURS plan:
If you want to direct investment decisions and are willing to assume the risk of market performance, the SMP may be the choice for you. Once enrolled, you direct where funds are invested and you have the ability to periodically review and make changes to the funds selected. You currently have two choices of custodians for these investment accounts; Fidelity and TIAA-CREF. Each provider has a wide range of investment choices.
If you prefer to have the employer retain the investment risk and receive a retirement benefit similar to a pension, then the Traditional or Portable may be the more suitable option. These plans are professionally managed by the investment staff with SURS. No matter the outcome of investment performance, your benefit is guaranteed.
Investment returns vary considerably making the effects of this factor very difficult to determine. For someone who enters the system earlier in their career and then leaves, the ability for the SMP pension accounts to continue to grow and be combined with other retirement plan savings throughout their working years may be a benefit. This could potentially favor the SMP. Someone nearer the end of their career may benefit more from a guaranteed benefit not dependent on investment returns, but based on earnings history and length of service. This may favor enrolling in the Traditional or Portable plans.
The trend has been toward a more mobile workforce, where multiple job changes throughout one’s career are not uncommon. Academia is not immune to this trend. Therefore, flexibility and portability of benefits may be more important than in the past. The Traditional plan has the least flexibility for departure. Once vested (after 10 years), your only options after leaving are to wait and draw benefits at full retirement age or to take a refund of only your own contributions (credited a fixed 4.5% interest rate). Your employer matching contributions are forfeited if refunded in the Traditional plan. A refund of your own contributions is the only option if you leave SURS with less than 10 years of service.
The Portable and SMP plan come with the ability to take the employer matching contributions with you when/if you leave the university SURS system. Under the Portable plan, your refund is determined based on your contributions and the employer contributions plus an effective rate of interest determined periodically by SURS. The SMP refund is also based on your and the employer contributions, plus or minus the actual performance of investments you selected.
In the Portable and SMP plans, 5 years of service are required to vest and entitle you to take employer matching contributions. Before taking any benefits, make sure you are aware of the tax consequences. These distributions may be paid directly to you or rolled to another qualified retirement plan. Finally, you may also forfeit retiree health insurance benefits in the event of taking or transferring a refund from all three plan types.
In exchange for reduced flexibility, the Traditional plan offers the most generous survivors benefits. Survivors would receive 2/3rds of your accrued monthly retirement benefit, payable to your eligible survivor. This benefit comes at no extra cost to you.
The Portable plan only offers a default survivors benefit if you die before reaching retirement. In that case, the benefit is 50% of your accrued retirement benefit (as compared to 2/3rds under the Traditional plan). Upon retirement, you can choose to purchase a survivor benefit greater than 50% at a cost to you of reduced lifetime payments.
The SMP plan does not provide an automatic lifetime survivor’s payment. You or your survivor are always eligible for a refund of your own contributions and earnings. After 1.5 years of service, employer matching and related earnings are also refundable to survivors. Your survivor may choose a lifetime payment with this refund, with the amount of such payment based on your SMP account balance at that time.
Current salary and future earning potential is another consideration when choosing a plan. Under current rules, the Traditional and Portable plans are only based on salary up to $111,571.63 (2017 limit, adjusted annually for inflation). If you select one of these plans and exceed the salary limit, your contributions to the plan (8% of salary) and employer matching contributions (7.6% of salary) will only be based on your wages up to the limit.
Those who have salaries in excess of the salary cap (or the potential to exceed the limit as future salary grows) may favor the SMP. Under the SMP plan, contributions are based on earnings up to $270,000 (2017, adjusted per IRS rules). For example, a participant with annual earnings of $200,000 would gain an additional $6,720.56 in employer matching contributions per year (7.6% of the difference between $200,000 and $111,571.63) over the Traditional and Portable plan limits, as well as their own additional contributions of $7,074.26 (8% of earnings) above the two lower contribution limit plans.
Eligibility for Retirement Benefits (Annuity)
All three plans are designed to provide you a monthly stream of income throughout retirement called an Annuity. You are entitled to a benefit in the Traditional and Portable plans when you have reached 10 years of service credit and have attained the age of 67. You may draw as early as age 62 with reduction of benefits.
For the SMP you may begin a retirement annuity at the age of 62 with 5 years of service credit, age 55 with 8 years of service credit, or any age with 30 years of service credit. As benefits are based on your SMP account balance at the time, there is no reduction for early benefits. However, you are purchasing a private annuity with a monthly benefit amount that will vary based on age and other factors you choose at retirement.
I’ll note that many clients consider the SMP plan a safe refuge from the troubled finances of the State of Illinois. The idea is that funds are held separately, in-trust, and therefore safe from the creditors of the State. This is true. By Federal law, SMP funds must be deposited in a timely manner to your account, including employer matching. State matching of the other pension plans has not always been made timely, which is a big part of the pension underfunding problem.
However, this advantage of the SMP does not make the Traditional or Portable plans “unsafe”. The Illinois constitution states that pension benefits cannot be diminished, which guarantees participants their right to future benefits. Previous attempts at pension reform have tested and found this guarantee to be true. Unlike municipalities and territories, Detroit and Puerto Rico being recent examples, a State may not go bankrupt and therefore discharge the indebtedness of pension through bankruptcy. While it is yet to be seen how the state will solve its current financial crisis, it must pay the promised bill of pensions.
Regardless of whichever plan you choose, I would also encourage you to fund additional savings beyond your mandatory pension contributions. While the SURS system does provide generous pension benefits, the pension was not designed to cover all your needs beyond working years. Additionally, depending on your work history, you may not qualify for social security benefits as you do not participate in the social security system with SURS earnings. Even if you have a past earnings history in social security, your social security benefits may be reduced. While there are many savings options out there, the 403b and 457 savings plans offered through the University are often a good place to start. We recommend supplemental savings of at least 7% and ideally 10% of earnings beyond your required SURS contributions.
Navigating this initial decision on retirement plan choice will have a lasting impact on your future financial security. Compounding the importance of this decision, it must be made in the flurry of other important activities of moving, starting a new job, selecting other benefits and adapting to your new role. If you need help interpreting these decisions in your own financial life, or want the peace of mind that you have considered the entire picture, please let us know. The majority of our clients are members or retirees of SURS. We have helped hundreds of clients through the complexities of pension decisions. If you would like our perspective or professional opinion on your own decisions, Contact Us today.
Guest Blogger: This post was co-written by Eric Schaefer, a senior studying Financial Planning at the University of Illinois. Eric is working towards becoming a CERTIFIED FINANCIAL PLANNER™ and is currently an intern at Bluestem Financial Advisors, LLC.