Abstract

Selecting the right Pension Plan under SURS is complex. Below are some of the factors we discuss and a summary of how they may impact your decision:

	Traditional Plan	Portable Plan	Retirement Savings Plan
High-income Participants	Less Favorable	Less Favorable	More Favorable
Participant Control of Investments	No	No	Yes
Pension Income Guaranteed	Yes	Yes	No
Career Stage	Favors Late-Career	Favors Late-Career	Favors Early-Career
Flexible Options at Retirement	Least	Moderate	Most

Introduction

Congratulations on your new role with an Illinois public institution! In addition to meeting your new colleagues, learning the ropes of your new department, and developing your new courses (if instructing), you will need to select a pension plan under the options offered through the State Universities Retirement System (SURS). Choosing the right plan can be complex, so we have narrowed down the factors we have found make the biggest difference.

We encourage you to be diligent in your selection process, but do not delay! While you have 6 months to select a plan, matching contributions are not allocated to the self-directed plan until you decide. If you fail to decide, you will automatically be enrolled into the default option of the Traditional Plan.

So, let’s get started!

An Overview of the Options

When you begin employment, you must select from three plan offerings: Traditional, Portable, or Retirement Savings Plan (hereafter referred to as RSP). The RSP was previously known as the Self-Managed Plan (SMP) until it was updated and rebranded in 2021. You may find that some colleagues still refer to it as such.

While all three plans are considered pension plans, they can be distinguished at a high level between defined benefit and defined contribution plans. In a defined benefit pension plan, your retirement income is based on a formula. The Traditional and Portable plans fall under this category. In this case, your income at retirement is determined by your average earnings and length of service. The pool of money that backs this pension is managed by SURS and the investment risk is borne by the State of Illinois.

In contrast, the RSP is a defined contribution plan. Your future retirement income is based on the balance of your account at retirement. Your contributions along with matching contributions from the state are deposited into a separate account for your benefit. You are responsible for selecting and managing the investments in that account and bear the investment risk of that account. When you retire, you can convert that account balance into a stream of income called an annuity. The level of this benefit will be determined by the balance of your account at retirement. You can read about these annuity options in the white paper we wrote about this plan by clicking here.

Options

Plan Type

Summary

Traditional Plan

Portable Plan

Defined Benefit

Retirement benefit based on formula

Employer bears investment risk

Retirement Savings Plan

Defined Contribution

Retirement benefit based on account balance

You bear investment responsibility and risk

How Salary Impacts your Choice

One major difference in the plans is the level of income counted towards your pension benefits. Due to this difference, salary and future growth potential could be the single biggest factors to consider in selecting your plan.

The Traditional and Portable plans are limited to a state-determined Maximum Pensionable Earnings, currently $116,470.42 (Fiscal Year 2022). If your salary exceeds this 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. Similarly, your final average salary to determine your annual pension will be capped based upon this same limit.

The RSP uses a federal limit for Maximum Pensionable Earnings, currently $290,000 (Fiscal Year 2022). This makes the RSP more favorable to those whose current or future salary may exceed the annual Traditional and Portable annual wage limit. To illustrate, consider the following examples.

Example 1 – Pension Under Traditional Plan

Dr. Zhao has been recruited by the University of Illinois as a Professor and a starting salary $200,000 per year. She selects the SURS Traditional Plan. She works for 25 years, retiring at age 67. Her pension is $64,000/year[i] or $5,333/month.

Example 2 – Pension Under RSP

Let’s assume the same base facts as example 1, except Dr. Zhao selects the RSP plan. She invests her RSP Account Balance into a portfolio of 40% Bonds and 60% Stocks, earning an annualized return of 9.4% per year[ii]. At age 67, she retires with a SURS RSP Balance of $2.8 million. She then annuitizes this balance and receives a lifetime income stream of $142,000/year or $11,833/month[iii].

There is a crucial difference between Examples 1 and 2. As an employee, your contribution to SURS ends after your income exceeds the Maximum Pensionable Earnings. Consider the following table to illustrate:

Plan

Maximum Pensionable Earnings

Contributions Assuming $200,000 Salary

Traditional Plan

Portable Plan

$116,470.42

Employer: amount required annually based on actuarial formula

Employee: $116,470.42 x 8% = $9,317.63

Retirement Savings Plan

$290,000.00

Employer: $200,000 x 7.6% = $15,200

Employee: $200,000 x 8% = $16,000

This means Dr. Zhao would contribute over $6,682.37 ($16,000 - 9,317.63) more per year to the SURS RSP than the SURS Traditional Plan.

Example 3 – Supplemental Savings

Assume the same facts as Example 1, except Dr. Zhao chooses to add the $6,682.37/year to a supplemental retirement savings plan (403b). We will also assume the same hypothetical portfolio used in Example 2. At the end of 25 years, she has an account balance of about $600,000. Assuming the same annuity rates as Example 2, she could receive an estimated additional income of $30,000/year, or $2,500/month, from her 403b account.

Together, these three examples illustrate the impact the salary cap has on the outcome. For someone whose income exceeds the salary cap, selecting the Traditional or Portable plan results in the missed opportunity to receive matching contributions.

Investment Control

For those who choose the RSP, one feature of the plan is the ability to control investment decisions. Voya is the current plan custodian. Through their platform you can allocate your account balance between a mix of different investment choices. One option is to select a custom mix of Core Funds. Core Funds are a set of low-cost, index funds designed to track a variety of investment benchmarks. Participants can choose a custom combination of Core Funds in proportions that they deem most appropriate for their situation, but are self-responsible for managing the balances between the Core Funds over time. An alternative to the Core Funds is the Lifetime Income Strategy (LIS) Fund. The LIS is an investment fund that is managed to automatically adjust the risk level of the fund based on your planned retirement date.

As illustrated in the above examples, choosing the RSP provides participants with the potential for maximizing pension payments in retirement. However, the downside is that you also bear the investment risk that comes along with your investment selections, which, depending on market and investment performance, can directly impact the future balance of the RSP and thus, the size of the pension payments which can be generated by that RSP balance.

If you prefer to have the employer retain the investment risk and receive a guaranteed income, then the Traditional or Portable may be a more suitable option. These plans are professionally managed by the investment staff with SURS. No matter the outcome of investment performance, your ultimate pension benefit is guaranteed.

While investment returns in the future cannot be predicted based on past performance, historical data generally shows more favorable returns for those who are invested for a long period of time[iv]. This suggests someone entering employment earlier in their career could benefit from a long period of time to allow investments to compound and grow in value, which may favor the Retirement Savings Plan.

Someone nearing the end of their career may not have a long-time horizon to ride out the ups and down of investment performance. In that case, a new employee in their later working years may favor enrolling in the Traditional or Portable plan.

Vesting & Flexibility

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, you should consider the flexibility and portability of benefits in the event of an employment change. Here is a summary:

The Traditional plan has the least flexibility for departure or refund.

Requires 10-years of service credit to vest.
If you are fully vested and leave SURS-covered employment, you can:
- Wait and draw benefits at full retirement age, or
- Take a refund of your own contributions plus interest. Employer matching contributions are forfeited with this choice.
If you are not yet vested and leave SURS-covered employment, you are only entitled to a refund of your own contributions. Employer contributions are forfeited unless you later vest.

The Portable plan offers some benefits of the defined-benefit plan while maintaining some flexibility in case of departure.

Requires 10-years of service credit to vest.
If you are fully vested and leave SURS-covered employment, you can:
- Wait and draw benefits at full retirement age, or
- Take a refund of your contributions, employer matching contributions, plus interest.
If you are not yet vested and leave SURS-covered employment, you are only entitled to a refund of your own contributions. Employer contributions and interest are also refundable after 5 years of service credit.

The Retirement Savings Plan offers the most flexibility.

You vest with 5 years of service credit.
If you are fully vested and leave SURS-covered employment, you can take a refund of your contributions, the employer contributions, and growth and interest of the account.
If you are not fully vested and leave SURS-covered employment, you can take a refund of your contributions and growth and interest of the account. Employer contributions are forfeited.

For all plans, eligibility for retiree health insurance requires you to fully vest. Taking the full refund option for any pension will forfeit retiree health insurance benefits.

Survivor & Legacy Benefits

In exchange for reduced flexibility, the Traditional plan offers the most generous survivor 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.

Example 4 – Survivor Benefits, Traditional

Following the same facts as example 1, assume that Dr. Zhao had selected the SURS Traditional pension with a base benefit of $5,333/month. If she were to die shortly after retiring, her spouse would be entitled to a survivor benefit of $3,555/month for life. At the death of Dr. Zhao and her spouse, no additional survivor benefits would be payable to children or other heirs.

The Portable plan only offers a default survivor 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.

Example 5 – Survivor Benefits, Portable

Following the same facts as example 1, assume that Dr. Zhao had selected the SURS Portable pension with a base benefit of $5,333/month. If she were to die shortly after retiring, her spouse would not be entitled to any survivor benefit. At retirement, Dr. Zhao could instead choose to take a reduced monthly pension to add a survivor benefit for 50%, 75% or 100% of the original pension.

The RSP does not provide an automatic lifetime survivor 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 account balance at that time.

FINAL NOTES

This guide was written for those enrolling in SURS now and are therefore in Tier II SURS plans. This applies to those enrolled on or after January 1, 2011. If you first enrolled in SURS prior to this date and are a Tier I participant, some of these plan provisions may be different.

I’ll note that many clients consider the RSP a 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, RSP 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 RSP 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 while actively participating in SURS. Even if you have a past earnings history in social security, your social security benefits may be reduced as a result of the benefits you earned while participating in SURS. 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 generally recommend supplemental savings of at least 7% and ideally 10% of earnings beyond your required SURS contributions.

CONCLUSION

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. Many 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!

Sources

[i] Calculated using the General Formula: 2.2% x 25 Years of Service x the maximum pensionable earnings limit of $116,470.42. Result rounded to the nearest thousand for simplicity of reading. There is a second formula called Money Purchase formula based on investment returns that may result in different pension calculation. We used the General Formula because your benefit can never be less than this result.

[ii] Investment Returns based on Shea, B. (2021). Investment Returns since 1926-2021 from Ibbotson's SBBI.

[iii] Future account balance calculated on investment return as described above and is not guaranteed. Past performance does not predict future results. Annuity calculated using a 50% Joint and Survivor Annuity Rates for 65-Year-Old Annuitant and 60-Year-Old Spouse as provided by Principal Life Insurance Company, Illustrative Table of Annuity Premiums for SURS Rates as of Jan. 1, 2021

[iv] How risk, reward & time are related (2022). Vanguard. Risk, reward & compounding | Vanguard

This post was updated August 2022.

Selecting the Right SURS Plan for You