Retirement: Defined benefit vs Defined contribution.. please help!

[M477]

Hi, I'm not quite sure if this is the right place to post this so forgive me if it is in the wrong place.

I will start out with a short introduction. I am 24, married, college graduate, my only debt is ~$11k in school loans. I started a new position last month at a state college making $39k a year.

Now for the long part..

I have a very important decision that will be set in stone after Thursday (April 1st).

Here is the decision I have to make:

My employer offers two different retirement options.

1. The Teachers Retirement System of Georgia (Defined benefit plan)

or

2. Optional Retirement plan. (Defined contribution plan)


Option 1:

Under the Teachers Retirement(TRS) plan, I contribute 5.25% of my salary to TRS and my employer contributes 9.75% in return. I am fully vested after 10 years of service.

After 10 years of service I am fully vested, that means I am eligible to receive a retirement benefit at age 60.

After 30 years of service, I can retire early regardless of age. I would be age 54 (They also offer up to 3 years of service for unused sick leave, so I could technically retire at age 51 or 52).

The calculation for the retirement benefit is: ((years of service) X (2% )) X (highest consecutive years of avg. salary).

TRS states it as such:

"The actual benefit amount you will receive when you retire depends on a formula that takes into account your total years of service and two highest consecutive years of average salary. "


That probably seems confusing so here are some examples:

Ex. 1.
Let's say I work for 12 years and then decide to leave my position. Then let's assume that my highest average salary across a 2 year period was $80k/yr. If I were to leave my contributions in the TRS, I would be eligible for a retirement benefit at age 60. My benefit would be: (12 years) X (2%) = 24% of $80k/yr = $19,200 a year for life.

Ex. 2.
Let's say I were to work there for 30 years. Then let's assume my highest average salary for two consecutive years is $120,000 (random number, there is a LOT of room to move up in the company and my boss has told me he sees a lot of potential in me). My benefit would be: (30 years) X (2%) = 60% of $120,000 = $72,000 a year for life.

Important notes:
1. I assume no risk with this plan. I am guaranteed the number I have mentioned above. It is a defined benefit.

2. I can NOT roll over my employers contributions after I am vested. I can roll over my own contributions plus any interest earned, but I will never have access to their contributions. They contribute solely for the purpose of funding current and future TRS benefits.


Option 2:

Under the Optional Retirement plan (ORP), I contribute 5% of my salary to ORP and my employer contributes 9.25% in return. I am fully vested immediately.

Under this plan, I would be fully responsible for my investment decisions and my money for retirement depends entirely on how well it does in the market.

So under this plan, currently I would be contributing 5% out of pocket ($1,950 a year pre-tax) and my employer would contribute 9.25% ($3,607 a year).

My employer offers three companies to invest with: Fidelity, TIAA-CREF and Valic.

I can invest this money however I like and if I decide to quit this job in 2 year, all of the money would be mine still because I am vested immediately.

This obviously offers more flexibility in changing career paths and such but is also a riskier way to plan for retirement.


More info can be found here, this is not the University I work for though. All the information is identical though:

Georgia State University - Mandatory Retirement Programs


Hope I did not bore anyone with the long read but it has been weighing heavily on my mind especially since I have to make a concrete decision by Thursday. Just wanted to see what others thought.

Sorry if my explanation of my options are a bit confusing, it is a bit late.

I can answer any questions as I will check back frequently.


Thanks for reading and thanks for any input.

 

[Koolau]

I won't offer advice but suggest a couple of questions to ask yourself. First, it seems that the total money going in is relatively similar (within a percentage point or less). This might allow you to calculate what kind of return you would have to get to yield the same result as a pension. I couldn't do the math myself, but if you can't, you could find someone who could. So, for instance, if it turned out that you would have to get 10% average return to equal the same payout as the pension, that would give you an idea whether you think that would be realistic or not.

If you decide to go with the pension, you could cover your bets by having an IRA on the "outside" (pssst. Roth, heh, heh - sorry unclemick. I'll let you talk about Wellsley).

Another question to ask is "what are the chances that you will be w*rking there 10 years or 30 years from now?" Is there j*b security and if so, do you think you can do the same thing (or at least w*rk at the same place) for that period of time. Many on this forum have given up significant pension money just to get out of Dodge early. If you think that might happen to you or if the j*b is not particularly secure, that might favor the portability of the defined contribution plan.

No one can make this decision for you. The good news as I see it is that both plans sound pretty sweet. It sounds like some of us who obsess over when to take Social Security. While there are advantages/disavantages to all the SS options, they all theoretically come about about the same depending upon your "average" life span.

I'd suggest you have a good "problem". I'm sure others here will be more specific in how you might compare the options. Best of luck.

You might check in at the "Hi, I am..." community and give any info about yourself you feel comfortable sharing. Most folks on the forum are friendly and helpful. Even those who get cranky are usually helpful.

 

[chinaco]

- Does the DB plan provide a COLA?
- How long do you intend to work there (as far as you know)? Is this a lifetime job and at what age do you actually plan on retiring (minimum age)?

 

[donheff]

What does "vesting" mean? I assume at 10 years you "own" the account and could take a deferred pension when you are older if you leave the school. But what happens if you leave in 5 years? Can you take out what is in the fund or do you lose it? If the later, you better be darn sure you are staying with the school for life. If not, take the DC plan.

 

[Leonidas]

A not-very-thorough examination of the Ga TRS website seems to indicate that the DB is only partially COLAed. That takes a little of the shine off of the DB pension, but don't kick it to the curb just for that. It looks like that they compute a base CPI at the time you retire, and if in subsequent years the CPI is greater they will increase your payments by 1.5%. Not bad in years like recent ones, but if you experience even "normal" inflation in your retirement (~3%), you will find yourself going into the hole a little bit at a time. Not good if you don't want to go back to work after being retired for 10 years or so because the pension payments aren't fully funding your lifestyle.

Just based on that, if you decide to go with the DB plan, I would think that you would want to include some inflation protection outside of the pension. You can choose the vehicle, IRA, 401/403, etc., that pleases you. But I wouldn't put all my eggs in the DB pension basket.

A big, well-run pension program is going to be involved in alternative investments that you probably will never be able to access as an individual investor under the ORP. We can only hope that this means that they will have better performance than you will achieve. That's not even considering the possibility that you might just suck at investing, and find that at some future point you've managed to lose your contributions, as well as the state's, in the ORP.

Plus, DB public pensions come with at least some guarantees backed by tax-dollars. Screwing public employees makes it harder to hire new ones and makes politicians look bad - not to mention the loss of faith - so there is at least some additional protection to the guarantees they make that your money will be there when you retire. The down side to that is that politicians have their nasty little fingers in your money to some extent, and they are always sensitive to looking bad, so some of their "fixes" might be to reduce some of your benefits (or increase your contributions) on the road between here and retirement.

To me, choosing the DB plan would be the way to go. With the mandate that you tack on some additional investments in a suitable retirement account to protect yourself against inflation, political interference in the DB plan's assets, and even the possibility that 7 years into this gig you wake up one morning and decide to change careers. And don't wait on that - do it from day one of employment and make it automatic deductions if possible. The longer you wait the more difficult it will be to part with a few extra bucks to make those contributions. You don't want to find yourself 30 years down the road realizing that you needed something extra in your cash flow sources.

 

[ziggy29]

If you're pretty confident you'll be there for a long time, I'd definitely take the DB pension. Maybe we're biased by short-term events, but the recent crashing of 401K-based DC plans putting retirements in jeopardy would make me put a premium on the security of a DB pension. That assumes, of course, that you plan to be there long enough to make a DB pension plan solid gold. If not, the portability of the DC plan (presumably like a 401K).

Perhaps if you can afford to make *both* contributions, the combination of the DB pension plan and a Roth IRA would make sense here.

 

[nun]

You really have to have an idea of how long you intend to be working at the state college. DB plans are good if you can be in them for 20 or 30 years, if you leave before 10 years you'd loose all of your employers contributions. So be honest with yourself and ask if you truely see yourself in this job for 20 years?

If you go with the ORP you have flexibility and you could get almost the same level of security by putting your money into the TIAA-CREF Traditional account

 

[M477]

Thank you all for your intelligent responses.

"- How long do you intend to work there (as far as you know)? Is this a lifetime job and at what age do you actually plan on retiring (minimum age)?"

I suppose that is the unknown part for me. I could make this a lifetime job, there is a lot of room for advancement. Both my and my wifes family live in this area so it would probably be nice to live around here for a long while. As for age of retirement.. as soon as I can would be preferred. I would only do so if I had a house that were paid for an knew I could provide for my current/future family though.

The thing I find so enticing about the DB is that I could retire at age 52 and receive a nice monthly income.

I do plan on investing on my own. The college offers a 403b account but of course they will not match any of my contributions. I would also like to open up a ROTH IRA.



"But what happens if you leave in 5 years? Can you take out what is in the fund or do you lose it?"

If I leave after 5 years with the DB plan, I have the option to keep my money in the TRS account for 4 years to earn interest and then roll over my contributions and interest earnings into another account. I would not be able to take my employers contribution with me.

If I were to stay here for only 10 years, would the DB plan still be a good source of retirement income? Obviously I do not know what my max salary will be 10 years from now, but the school would only be paying me 20% at age 60. As opposed to the ORP that would have netted me a minimum of 60k in a retirement account.


This is such a tough decision but I do understand the importance, that is why it is not easy.

 

[Rustic23]

Take the DB, then save like there is not going to be any money when you get to retirement age. LBYM! Ten years sounds like a long time, it's not. On the other hand, there are lots of folks out there that don't last 10 years with an employer. Only you know the answer to that. If you believe you would be willing to work there long term, you think they would be willing to keep you long term, then I would pick the DB, and never look back.

 

[Alan]

Welcome to the site It may not seem it but you have a nice pair of options to choose from. Retiring on a pension at 51/52 is very attractive for the reasons given above, plus it looks very much like leaving after 10 years will give a nice deferred pension.

I never had the option of DC or DB, it was always DB and after contributing to 3 plans in 3 different companies I am now drawing 2 out of 3. (decided to let the 3rd one accumulate until I'm 65 - I'm 55 now).

I have been very satisfied with my DB pensions (they are all from companies, and I think State pensions are going to be pretty secure) .

Good luck with your decision and your future career.

 

[metabasalt]

I'm retiring in 2 weeks, with a pension for 26 years work. But if I had to do it over again I'd probably choose a 401k. Why? Because my company is in bankruptcy and there's a fair chance that at some point my pension that I thought was guaranteed will pay less than the guarantee. If you choose 401k then your risk is in one place: your investing abilities. If you choose a DB your risk is in two places: the DB's investing abilities and in the DB continuing in the way that is it set up now and actually providing you what it says it will. I understand others suggesting the DB. But recent events have shown me that there are no guarantees anywhere, either in DBs or DCs. Since I have more control of a DC I'd choose that. And I'd add as a longtime union member who has seen companies screw their employees by switching them from a generous DB plan to a cheap DC one I never thought I'd recommend a DC plan. But that was before I knew how tenuous DB plans can be.

 

[ziggy29]

I'm retiring in 2 weeks, with a pension for 26 years work. But if I had to do it over again I'd probably choose a 401k. Why? Because my company is in bankruptcy and there's a fair chance that at some point my pension that I thought was guaranteed will pay less than the guarantee.

Yeah, this is another "moving part" in the decision. If you're in a private company and you're expecting a pension that would exceed PBGC limits, there's a case for taking the defined contribution route -- or alternatively, opt to get a lump sum payout if that's an option in your plan.

 

[M477]

Why? Because my company is in bankruptcy and there's a fair chance that at some point my pension that I thought was guaranteed will pay less than the guarantee.

I'm not too worried about this, I guess the thought never crossed my mind. My employer is the Medical College of Georgia. They have been around since 1828 and are the #1 Medical school in the state. Even still, once I am vested, I would be entitled to a retirement benefit by TRS and not my employer. TRS is a state run program so I don't know that my retirement benefit is dependent on the school being around during my retirement. Please correct me if I am wrong.

This decision has been the only thing I have been thinking about over the past couple days. I have flip-flopped between decisions and feel as though I might possibly regret either decision I make. I realize that is the wrong way to think about this because they are both good plans, it is just a matter of how long I will be here.

I think I am leaning toward the DB now. I can see putting in at least 10 years I suppose. Unless I find some get-rich-quick-scheme that actually works, or start a business from home that makes me a millionaire, I am going to need a job. This job will provide job security and plenty of room for advancement. They will even pay for school if I decide to go back for my Masters degree.

I am enrolled in their high deductible health plan and have a health savings account with money that goes in to in monthly pre-tax.

I will set up a 403b and/or a roth IRA to see how good I am at investing on my own but maybe it isn't a smart decision to bank all of my retirement on how good I might be at investing with the DC plan.

If something better comes along after 10 years, I will be vested in this company and can move on to new things.

This is just me talking my self in to my decision so any support would be welcome. I wouldn't mind hearing how beneficial DB plans have been to some of the users here as I am coming to the realization that the DB will be in my future.It sounds like the safest way to a secure retirement.

Thanks again

 

[Rustic23]

Military retirement is, IMHO, one of the best DB plans. I don't think you will find many that made it to 20 disagree. Having said that, the biggest draw back to it is. it is 20 or nothing, for all practical purposes, there is no vesting until you get to 20. Many on this board enjoy this defined benefit today.

 

[Alan]

I think I am leaning toward the DB now. I can see putting in at least 10 years I suppose.

....and you'll still only be age 34

 

[M477]

....and you'll still only be age 34

Correct, but the payout would only begin at age 60. I can get a payout at an age earlier than 60 if I put in 30 years. Still worth it?

 

[Eagle43]

Military retirement is, IMHO, one of the best DB plans. I don't think you will find many that made it to 20 disagree. Having said that, the biggest draw back to it is. it is 20 or nothing, for all practical purposes, there is no vesting until you get to 20. Many on this board enjoy this defined benefit today.

Put me down in the agree column. It seemed like a long time to get to the 20 years, but I've been drawing the DB now longer than I was in. Every 4 years you had to decide to stay or go. I stayed. The DB has increased over the years, and will again, when inflation comes around. It is an reliable financial safety net.

 

[Boss2014]

I don't post much. (do alot of lurking !!) But DB's are near and dear to my heart as I'm in one. I think they are the next best thing besides sliced bread.

Look at that 19.2K per year for the rest of your life. How much would you have to have saved in a 401K to get that much at a 4% withdrawl rate? About 480K !! Do you think you'll have that in your DC in 12 yrs?

 

[Alan]

Correct, but the payout would only begin at age 60. I can get a payout at an age earlier than 60 if I put in 30 years. Still worth it?

If, like one of my pensions, it continues to be COLA'ed, then yes. I left Megacorp 2 in 1992 at age 37. I don't plan on taking the pension until full Retirement age at age 65. Every year I get a statement telling me what the new pension will be and it continues to keep pace with inflation.

Look into that - if it is frozen if you leave after 10 years then it is a lot less valuable.

 

[M477]

A not-very-thorough examination of the Ga TRS website seems to indicate that the DB is only partially COLAed. That takes a little of the shine off of the DB pension, but don't kick it to the curb just for that. It looks like that they compute a base CPI at the time you retire, and if in subsequent years the CPI is greater they will increase your payments by 1.5%. Not bad in years like recent ones, but if you experience even "normal" inflation in your retirement (~3%), you will find yourself going into the hole a little bit at a time.

I found some information that states that they review for COLA twice a year and adjust if needed. That means they could possibly increase the benefit by a total of 3% in one year.

This link explains it better than I can:

http://www.trsga.com/Images/NewsDocs/_2379/July 2009 COLA Announcement.pdf

I don't post much. (do alot of lurking !!) But DB's are near and dear to my heart as I'm in one. I think they are the next best thing besides sliced bread.

Look at that 19.2K per year for the rest of your life. How much would you have to have saved in a 401K to get that much at a 4% withdrawl rate? About 480K !! Do you think you'll have that in your DC in 12 yrs?

Well with the DC, I would not be able to withdraw funds until age 60 (same as the DB). So the question should be, "Do I think I will have that in my DC in 36 years?".

Or

"If I were to contribute to the DC for 12 years and make no further contributions, would it grow to 480k by age 60?"

If I and my employer were to contribute to the DC for 12 years, let's assume I had $75k in it after 12 years. On average, what would it have grown to by the time I am 60?


Maybe I am thinking about this too much. So does the DB (with atleast 10 years of service) along with a Roth IRA and/or 403b sounds like a winner?

 

[brewer12345]

I suspect you and I are very different people, so you will have to take this with a grain of salt. However, there is no way I could imagine signing on the dotted line to stay anywhere for 10 years at age 24, let alone 30. Giving up your ability to move on if you get a better offer or simply don't want to do this job any more strikes me as a lot to leave on the table. I personally would take the bird in hand.

 

[M477]

I suspect you and I are very different people, so you will have to take this with a grain of salt. However, there is no way I could imagine signing on the dotted line to stay anywhere for 10 years at age 24, let alone 30. Giving up your ability to move on if you get a better offer or simply don't want to do this job any more strikes me as a lot to leave on the table. I personally would take the bird in hand.

That is why the decision is so difficult and reading your post only makes me rethink what I should do. I almost wish I did not have a decision to make and only one option was offered.

 

[kumquat]

I'd go DC but YMMV. Here's why (so if I read something wrong, this suggestion won't be relevant).

Ex. 1.
Let's say I work for 12 years and then decide to leave my position. Then let's assume that my highest average salary across a 2 year period was $80k/yr. If I were to leave my contributions in the TRS, I would be eligible for a retirement benefit at age 60. My benefit would be: (12 years) X (2%) = 24% of $80k/yr = $19,200 a year for life.

Let's say you did that. Then you work elsewhere for another 25 years and then retire. Your $19K looked ok when you left (~25% of current income), but when you retire inflation has probably knocked it's purchasing power down to about 1/3 of that. In other words, after another 25 years, your ending salary might be > $160K (assuming 3% inflation, no promotions) so in todays terms, pension is ~ 12% of current income. If you took the DC route, your "pot" would vary with markets. [-]In all probability[/-] it's [-]likely[/-] possible, over 25 years, your investments will exceed inflation and your 19K will triple.

See my post, #16, in this thread. I neglected to break this down. Of my $1.3M, 600K came from my 1st job, the rest from my second. I stayed at my first job 12 years. My ending salary was ~$40K. That would give me a DB pension of about 1.5% * 12 years * final pay (40K) = $7.2K Of the $1.3M in my DC plan, about $600K comes from those first 12 years. Check out (even at today's rates) what a $600K SPIA will deliver.

The killer to me is, do you want to be locked to a j*b you don't like (after 15 years) just to get a decent pension 20 -25 years later. Your life, your money, your decision.

 

[Leonidas]

Brewer made a good point. In retrospect, I gave my earlier advice based solely on looking backwards from a 50 year-old's view. I don't back away from what I said, but I will admit that the 20 year-old me didn't have a clue about pensions or retiring when I started my career. In fact, I actually questioned the pension deductions from my check, and wanted to know if I could opt out. At one point, about two-three years in, I took the opportunity to switch pension plans so I would be able to take my contributions with me when I left - and at the time I was seriously considering leaving.

It all worked out really great - I loved the work even if there were days I couldn't stand the employer. For the most part there were many more days when I couldn't believe they paid me for what I did than there were days when I was convinced there wasn't enough money in the world to get me to do another day.

But I was lucky in that I worked at a place big enough that I got to move around to very different types of work within the same organization. I got the benefit of the pension from a single employer and had half a dozen "mini-careers" that provided a lot of variety and enjoyment. I know I couldn't have stuck with the same position for twenty-seven years if it had not been for the variety.

 

[M477]

I fully understand the point about being so young and committing to a job for at least 10 years. That is why I am so confused on what to do. I am still young, recently married, and plan to have a family in the future. I just want to make the right decision.

My fear with the DC is that it would ultimatley not receive as good of a benefit as I would from the DB.

My fear with the DB is that after being at this job for 6 or 7 years, I get tired of it and will want to move on to something new or start my own business. I would only be left with my contributions at that point. Which would total about ~12k as opposed to the ~34k I could have and be fully vested in under the DC.

Retiring at age 52 under the DB also seems very attractive, but as a 24 year old, I am having a very hard time putting 30 years of work at the same place in to perspective. I haven't even been alive that long. It seems like a lifetime.

Well, whatever I choose I hope I am happy with it. I would really hate to regret the decision I make.

I have to submit my final decision, which can never be changed again, before 2 p.m. (eastern) tomorrow. Any final words/recommendations are more than welcome because at this point, I still do not know what my final decision will be. I suppose it is a good thing that this decision is weighing heavily on me as most of the people my age could not care less about retirement savings whereas I am very concerned about my wife and I's financial independence in retirement.